```

[Senate Hearing 106-623]
[From the U.S. Government Publishing Office]

                                                        S. Hrg. 106-623

 
      HUD'S GOVERNMENT-INSURED MORTGAGES: THE PROBLEM OF PROPERTY 
                              ``FLIPPING''

=======================================================================

                                HEARINGS

                               before the

                               PERMANENT
                     SUBCOMMITTEE ON INVESTIGATIONS

                                 of the

                              COMMITTEE ON
                          GOVERNMENTAL AFFAIRS
                          UNITED STATES SENATE

                       ONE HUNDRED SIXTH CONGRESS

                             SECOND SESSION

                               __________

                          JUNE 29 AND 30, 2000

                               __________

      Printed for the use of the Committee on Governmental Affairs

                    U.S. GOVERNMENT PRINTING OFFICE
66-088 cc                   WASHINGTON : 2000

_______________________________________________________________________
For sale by the Superintendent of Documents, Congressional Sales Office
         U.S. Government Printing Office, Washington, DC 20402

                   COMMITTEE ON GOVERNMENTAL AFFAIRS

                   FRED THOMPSON, Tennessee, Chairman
WILLIAM V. ROTH, Jr., Delaware       JOSEPH I. LIEBERMAN, Connecticut
TED STEVENS, Alaska                  CARL LEVIN, Michigan
SUSAN M. COLLINS, Maine              DANIEL K. AKAKA, Hawaii
GEORGE V. VOINOVICH, Ohio            RICHARD J. DURBIN, Illinois
PETE V. DOMENICI, New Mexico         ROBERT G. TORRICELLI, New Jersey
THAD COCHRAN, Mississippi            MAX CLELAND, Georgia
ARLEN SPECTER, Pennsylvania          JOHN EDWARDS, North Carolina
JUDD GREGG, New Hampshire
             Hannah S. Sistare, Staff Director and Counsel
      Joyce A. Rechtschaffen, Minority Staff Director and Counsel
                 Darla D. Cassell, Administrative Clerk

                                 ------                                

                PERMANENT SUBCOMMITTEE ON INVESTIGATIONS

                   SUSAN M. COLLINS, Maine, Chairman
WILLIAM V. ROTH, Jr., Delaware       CARL LEVIN, Michigan
TED STEVENS, Alaska                  DANIEL K. AKAKA, Hawaii
GEORGE V. VOINOVICH, Ohio            RICHARD J. DURBIN, Illinois
PETE V. DOMENICI, New Mexico         MAX CLELAND, Georgia
THAD COCHRAN, Mississippi            JOHN EDWARDS, North Carolina
ARLEN SPECTER, Pennsylvania
          K. Lee Blalack II, Chief Counsel and Staff Director
      Linda J. Gustitus, Minority Chief Counsel and Staff Director
                     Mary D. Robertson, Chief Clerk

                            C O N T E N T S

                                 ------                                
Opening statements:
                                                                   Page

    Senator Collins.............................................. 1, 41
    Senator Durbin...............................................18, 52

                               WITNESSES
                        Thursday, June 29, 2000

Hon. Barbara A. Mikulski, a U.S. Senator from the State of 
  Maryland.......................................................     4
Lisa Smith, Fresh Meadows, New York..............................     9
Sonia Pratts, Hollywood, Florida.................................    12
Stekeena Rollins, Chicago, Illinois..............................    15
Stanley J. Czerwinski, Associate Director, Housing and Community 
  Development Issues, Resources, Community, and Economic 
  Development Division, U.S. General Accounting Office, 
  accompanied by Robert Procaccini, Assistant Director for FHA 
  Insurance Programs, and Paul Schmidt, Assistant Director for 
  Single-Family Housing Programs.................................    29

                         Friday, June 30, 2000

William C. Apgar, Assistant Secretary for Housing and Federal 
  Housing Commissioner, U.S. Department of Housing and Urban 
  Development....................................................    43
Susan Gaffney, Inspector General, U.S. Department of Housing and 
  Urban Development, accompanied by Kathryn M. Kuhl-Inclan, 
  Assistant Inspector General for Audit, Office of Inspector 
  General, U.S. Department of Housing and Urban Development; and 
  Philip Kesaris, Assistant Inspector General for Investigations, 
  U.S. Department of Housing and Urban Development...............    62

                     Alphabetical List of Witnesses

Apgar, William C.:
    Testimony....................................................    43
    Prepared statement...........................................    97
Czerwinski, Stanley J.:
    Testimony....................................................    29
    Prepared statement...........................................    87
Gaffney, Susan:
    Testimony....................................................    52
    Prepared statement...........................................   107
Mikulski, Hon. Barbara A.:
    Testimony....................................................     4
    Prepared statement...........................................    71
Pratts, Sonia:
    Testimony....................................................    12
    Prepared statement...........................................    80
Rollins, Stekeena:
    Testimony....................................................    15
    Prepared statement...........................................    83
Smith, Lisa:
    Testimony....................................................     9
    Prepared statement...........................................    77

                              Exhibit List

* May Be Found In The Files of the Subcommittee

 1. GAffidavits of Richard Nelson and Louis Prus informing the 
  Permanent Subcommittee on Investigations of their decision to 
  assert their Fifth Amendment right not to answer questions if 
  called before the Subcommittee.................................   115
 2. GThe Report of the Baltimore Task Force on Predatory Lending, 
  June 2000......................................................   117
 3. GMaterials regarding Stekeena Rollins:
    a. GPictures of Stekeena Rollins' residence..................   169
    b. GResidential Real Property Disclosure Report reflecting 
      sellers lack of knowledge of material defects..............   174
    c. GLoan Application (p. 2 of 4) reflecting false income.....   175
    d. GGift Affidavit...........................................     *
    e. GReal Estate Sale Contract................................     *
    f.  GHUD-1 Settlement Statement and Addendum.................     *
    g. GUniform Residential Appraisal Report.....................     *
    h. GIndictment of Appraiser on Rollins' Property.............     *
    i.  GUniform Residential Loan Application and Mortgage Credit 
      Analysis Worksheet.........................................     *
    j.  GTermite Inspection......................................     *
    k. GEarnest Money Deposit and Cashiers Check to Rollins for 
      $6,000.....................................................     *
    l.  GAdjustable Rate Rider...................................     *
    m. GInformation on prior sale of Rollins' House for $14,000..     *
    n. GBorrower's Notification and Interest Rate Disclosure 
      Statement..................................................     *
    o. GDependable Mortgage, Inc. Acknowledgment.................     *
 4. GMaterials regarding Lisa Smith:
    a. GPictures of Lisa Smith's residence.......................   176
    b. GContract of Sale and accompanying Rider..................     *
    c. GImportance of Home Inspections report....................     *
    d. GHUD-1 Settlement Statement and Addendum..................     *
    e. GUniform Residential Loan Application.....................     *
    f.  GGift At Closing Certification and certified check.......     *
    g. GAppraisal and Valuation Condition Sheet..................     *
    h. GInformation on prior sale of Smith's House for $50,000...     *
 5. GMaterials regarding Sonia Pratts:
    a. GPictures of Sonia Pratts' residence......................   178
    b. GContract For Sale and Purchase of Real Property..........     *
    c. GSeller's Disclosure Form.................................     *
    d. GHUD-1 Settlement Statement and Addendum..................     *
    e. GUniform Residential Appraisal Report.....................     *
    f.  GBuydown Worksheet.......................................     *
    g. GCode Violations..........................................     *
    h. GTermite Inspection.......................................     *
 6. GChart: Foreclosures Started by Subprime Lenders in 
  Chicagoland--1993, 1998........................................   181
 7. GU.S. General Accounting Office Report, Single-Family 
  Housing: Stronger Oversight of FHA Lenders Could Reduce HUD's 
  Insurance Risk, April 2000, GAO/RCED-00-112....................   182
 8. GGAO chart reflecting frequency of poor ratings for mortgage 
  credit analysis given to 36 approved lenders...................   227
 9. GChart: HUD's Failure to Monitor Appraisers..................   228
10. GHUD Form: For Your Protection: Get a Home Inspection........   229
11. GChart: Percent of Loans In Foreclosure......................   230
12. GChart: Percent of Loans Delinquent..........................   231
13. a. GTranscript of June 2000 HUD-FHA Appraisal Commercial.....   232
    b. GVideo of June 2000 HUD-FHA Appraisal Commercial..........     *
14. GMemorandum prepared by K. Lee Blalack II, Chief Counsel and 
  Staff Director, Rena M. Johnson, Deputy Chief Counsel, Karina 
  Lynch, Counsel, et al., dated June 27, 2000, to Permanent 
  Subcommittee on Investigations' Membership Liaisons, regarding 
  Background Memorandum for ``Flipping'' Investigation...........   233
15. GNew York City, Chicago, and Florida Lending Activities/
  Actions Taken, provided for the record by General Deputy 
  Assistant Secretary Matthew O. Franklin, U.S. Department of 
  Housing and Urban Development..................................   296
16. GFHA Premium Policy, provided for the record by General 
  Deputy Assistant Secretary Matthew O. Franklin, U.S. Department 
  of Housing and Urban Development...............................   313
17. G2-minute video of testimony of Lisa Smith, Sonia Pratts and 
  Stekeena Rollins before the Permanent Subcommittee on 
  Investigations on June 29, 2000, shown to Assistant Secretary 
  Apgar, U.S. Department of Housing and Urban Development on June 
  30, 2000.......................................................     *
18. GTable: HUD: Ignoring the Warnings...........................   314

      HUD'S GOVERNMENT-INSURED MORTGAGES: THE PROBLEM OF PROPERTY 
                              ``FLIPPING''

                              ----------                              

                        THURSDAY, JUNE 29, 2000

                                       U.S. Senate,
                Permanent Subcommittee on Investigations,  
                  of the Committee on Governmental Affairs,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 9:30 a.m., in 
room SD-342, Dirksen Senate Office Building, Hon. Susan M. 
Collins, Chairman of the Subcommittee, presiding.
    Present: Senators Collins and Durbin.
    Staff Present: K. Lee Blalack II, Chief Counsel and Staff 
Director; Mary D. Robertson, Chief Clerk; Rena Johnson, Deputy 
Chief Counsel; Karina Lynch, Counsel; Brian C. Jones, 
Investigator; Claire Barnard, Detailee/HHS; Jim Pittrizzi, 
Detailee/GAO; Raymond Kessenich, Detailee/NCIS; Elizabeth Hays, 
Staff Assistant; Bob Slama, Detailee/Secret Service; Bob 
Groves, Detailee/HUD OIG; Courtney Hays, Intern; Joe Kosnow, 
Intern; Adam Thomas, Intern; Felicia Knight (Senator Collins); 
Steve Abbott (Senator Collins); Tracy Shollenberger (Senator 
Specter); James Twaddell (Senator Specter); Marianne Upton 
(Senator Durbin); Glen Sauer (Senator Akaka); Jessica Porras 
(Senator Durbin); and Jonathan Mervis (Senator Durbin).

              OPENING STATEMENT OF SENATOR COLLINS

    Senator Collins. The Subcommittee will come to order.
    Good morning. During the next 2 days, the Permanent 
Subcommittee on Investigations will examine a type of mortgage 
fraud commonly known as ``flipping.'' Flipping is a complex 
fraud that involves the purchase and then resale of property at 
greatly inflated prices. This fraudulent scheme increasingly 
plagues our Nation's cities and victimizes first-time 
homebuyers. Indeed, the evidence gathered by the Subcommittee 
during its 9-month investigation suggests, as Senator Mikulski 
has previously noted, that flipping is spreading like a virus 
that, if left unchecked, could reach epidemic proportions.
    Property flipping generally involves con artists who 
purchase dilapidated homes at bargain prices, usually in 
economically distressed parts of the city. These properties are 
then quickly resold at a tremendous markup--often 100 percent 
or more. It is not uncommon for ``flippers'' to buy and sell 
the same property within a few months, or even days.
    In flipping schemes, the sellers frequently make cosmetic 
repairs to the property such as carpeting over damaged wood 
floors or painting over termite damage so that it is not 
visible. They then sell the home to an unsuspecting purchaser, 
usually targeting low-income, first-time homebuyers. The 
targeted buyers are normally unsophisticated financially and 
have little experience with financial transactions, much less 
the real estate market. Through high-pressure tactics, the 
sellers persuade these buyers to rely on them completely. They 
arrange for the buyers to obtain a mortgage loan, often by 
doctoring the buyers' financial and credit information. To 
support the grossly inflated sales price, the sellers often 
obtain dubious appraisals from unscrupulous appraisers who are 
part of the scam.
    After the buyers move into their new homes, they soon 
discover that the ``total rehab'' they were promised is little 
more than a crumbling relic. Their dream of homeownership 
quickly turns into a nightmare. Our investigation found that 
many buyers are left with homes that are virtually 
uninhabitable. Others are forced to make costly repairs that 
they can scarcely afford. In addition, because the homes are 
sold at exorbitant markups, the buyers are often saddled with 
mortgage payments that exceed their ability to pay. The end 
result for these unfortunate homeowners is often default and 
eventually the loss of their homes through foreclosure. While 
the property flippers walk away from the sale with huge 
profits, the homebuyers are often left with no home, broken 
promises, and a tarnished credit rating.
    During our extensive investigation, the Subcommittee staff 
interviewed scores of low-income homebuyers who had been duped 
by property flippers. Let me tell you the story of one of them. 
The tragic story of Gladys Hall, a 54-year-old Chicago 
resident, illustrates how these flipping scams work and 
testifies to the emotional and financial toll that results from 
this fraud.
    In early 1996, Ms. Hall contacted a local real estate 
agency in response to a flyer that had been circulated in her 
neighborhood, urging her to ``rent to buy.'' After speaking 
with a sales agent, she was persuaded to purchase a home owned 
by the real estate agency that was located in the South Austin 
area of Chicago.
    At that time, Ms. Hall was unemployed, and her only source 
of income was Supplemental Security Income, SSI. Even though 
Ms. Hall obviously had very little means, the seller arranged 
for her to obtain an FHA-backed mortgage to purchase the house 
for $122,000. Property records indicate that the real estate 
agency selling her the house had purchased the property 22 
months earlier for only $11,000. That is a markup of over 1,000 
percent.
    At the time of the sale, the real estate agent assured Ms. 
Hall that his agency would thoroughly rehabilitate the house. 
Soon after she moved into her new home, however, Ms. Hall 
discovered that the structure was leaning noticeably, the roof 
leaked, and the plumbing didn't work. In addition, even though 
the sales agent assured Ms. Hall that her monthly mortgage 
payment would be about $500, it soon skyrocketed to $1,000 a 
month. It turned out to be an adjustable rate mortgage, 
something that Ms. Hall told the Subcommittee staff she did not 
understand at the time of the sale. She did not realize that if 
interest rates increased, her mortgage payment could also 
increase dramatically.
    Not surprisingly, Ms. Hall soon fell behind in her mortgage 
payments. In 1998, the lender foreclosed, obtained payment on 
the insurance from FHA, and returned the property to the 
Department of Housing and Urban Development. Ms. Hall is now 
living in a public housing project in Chicago.
    When HUD sold Ms. Hall's home in April of this year, it 
received only $24,990. The insurance fund run by HUD picked up 
the difference, incurring a loss of over $90,000. The 
Subcommittee staff sought to question the principals of the 
real estate agency that sold this property to Ms. Hall; 
however, those individuals asserted their Fifth Amendment 
rights and refused to answer any questions.\1\
---------------------------------------------------------------------------
    \1\ See Exhibit No. 1 which appears in the Appendix on page 115.
---------------------------------------------------------------------------
    Unfortunately, Ms. Hall's experience is far from unique. We 
will hear testimony today from three witnesses who were also 
victimized by flipping schemes very similar to the one 
perpetrated on Ms. Hall. Moreover, HUD's Office of Inspector 
General reported in its report to Congress dated March 31 of 
this year that it had uncovered ``massive fraud schemes 
surrounding the origination of single-family homes insured by 
HUD.'' Six months ago, a Federal grand jury in Los Angeles 
charged 39 persons with fraudulently obtaining more than $110 
million worth of FHA-insured loans through the execution of 
multiple flipping schemes that typically inflated the value of 
the properties as much as $150,000.
    And, just 2 weeks ago, Federal prosecutors in Florida 
charged 10 people with fraudulently securing more than 200 FHA-
insured loans valued in excess of $17 million. One of the 
defendants has apparently told authorities that they targeted 
first-time homebuyers in predominantly working-class, minority 
neighborhoods. This fraud ring followed a familiar formula: Buy 
properties in distressed conditions at very low prices, perform 
minor cosmetic improvements, and then resell the homes at 
drastically inflated prices to unsophisticated buyers.
    I find it very troubling that so many citizens in our 
Nation's cities have been victimized by the predatory practices 
of unscrupulous real estate agencies, appraisers, and lenders. 
But what I find most appalling is that the Federal Government 
has essentially subsidized much of this fraud. HUD, through 
FHA, insures many of the mortgages that finance these 
fraudulent transactions. A series of audits and reports over 
several years warned HUD repeatedly of the vulnerability of its 
mortgage programs to fraud. But the Department has been slow to 
act to curtail this fraud.
    When a lender forecloses on Gladys Hall or any other 
flipping victim, it is fully compensated for underwriting the 
bad loan because FHA pays the insurance claim. Therefore, these 
flipping schemes often result not only in financial ruin and 
emotional distress for the buyers and their families, but they 
also undermine the integrity of the FHA insurance fund by 
passing on the tab for this fraud to the Federal Government.
    The unfortunate irony, of course, is that the victims of 
property flipping are often the very people whom HUD is 
intended to help attain the American dream of homeownership. 
They depend on HUD to protect them from the predatory sales and 
lending practices that the Subcommittee's investigation 
revealed. After all, without HUD's help, they would be unable 
to obtain the conventional mortgages to buy their homes. Their 
whole access to the housing market depends on obtaining the FHA 
loan guarantees. Surely, HUD has a duty to protect these 
unsophisticated homebuyers who are the targets of these 
fraudulent sales and lending practices as well as to safeguard 
the integrity of the insurance fund.
    The purpose of these hearings is to get to the bottom of 
this disturbing trend in mortgage fraud. In addition to 
examining the flipping schemes and the havoc that they wreak on 
families and neighborhoods, we will consider whether HUD could 
do more or could have done more to prevent the recent growth in 
mortgage fraud that has beset the single-family loan program. 
We will also seek to determine what we can do now working with 
HUD to put a stop to these predatory practices which threaten 
the stability of many urban neighborhoods and rob the insurance 
fund.
    I look forward to hearing all of our testimony today, and I 
think we are especially fortunate to have as our lead-off 
witness for these hearings my distinguished colleague from 
Maryland, Senator Barbara Mikulski. Over the past several 
months, I have followed her efforts very closely, as she has 
been a leader in remedying the exploding problem of mortgage 
fraud in the city of Baltimore. She has worked very diligently 
to expose flipping, and she has been a leader in Congress on 
this troubling issue. She has been responsible for prompting 
the Department of Housing and Urban Development to take some 
action in this area, and I am delighted to have her here today.
    Senator Mikulski, you may proceed.

 TESTIMONY OF HON. BARBARA A. MIKULSKI,\1\ A U.S. SENATOR FROM 
                     THE STATE OF MARYLAND

    Senator Mikulski. Well, thank you very much, Senator 
Collins. First of all, I want to thank you for holding this 
series of hearings to really get in very deeply on the issues 
of predatory lending. Your own reputation for standing sentry 
on the issues of fraud is well known. I think senior citizens 
and their families all over America are grateful for the 
leadership that you undertook in the telemarketing and other 
fraud scams against seniors. Remember the ``Buy a magazine 
today, lose your house tomorrow'' kind of thing? And all over 
the State of Maryland I talk about Senator Sue from Maine, who 
really stopped these scams directed against seniors.
---------------------------------------------------------------------------
    \1\ The prepared statement of Senator Mikulski appears in the 
Appendix on page 71.
---------------------------------------------------------------------------
    I so welcome the fact that you have now turned your very 
able and your staff's attention to the issue of flipping. 
Flipping is a word that has no meaning to it until we really 
name it, and it is called predatory, predatory lending, and 
that is what this is all about, where through predatory 
practices, preying on the poor, that they bought homes at very 
low cost in very distressed neighborhoods, turned them around 
at exorbitant profits, had FHA to subsidize their unscrupulous 
and often illegal behavior, gouging the poor, ripping off the 
taxpayer, and when the poor can't make their obligations, 
through no fault of their own, the houses are then foreclosed, 
and then we have got to dispose of them. And in many of our 
neighborhoods, the term ``a HUD house'' is really a despicable 
term because it is even bringing the neighborhood further down.
    So we want to congratulate you on this because there are 
really two types of flipping: The flipping of real estate, 
which you have discussed here today; then there is also the 
flipping of the mortgage, where they take the mortgage and keep 
flipping it over and over again, adding fees where the 
transactors sit back and enjoy the largesse, but the working 
poor, the ones out there who work in day-care centers, often in 
hospitals as aides and orderlies, or in geriatric services, who 
end up now at the end of the day with a bad back, varicose 
veins, and often facing bankruptcy because of these 
unscrupulous practices. So we thank you for your leadership.
    I got into this because of hearing about the stories in our 
own neighborhood, stories about unsuspecting people trying to 
buy a home, first-time homeowners often moving from welfare to 
work, learning that the houses they bought were worth less than 
half of what they paid, stories of the gouging of the poor by 
unscrupulous real estate investors, appraisers, title 
searchers, and even predatory lenders.
    In February, I went to a meeting at St. Michael's Church in 
East Baltimore, where I heard about the problem firsthand. Your 
own staff was there, and we welcomed their attendance and 
participation that day.
    We learned about crooked appraisers conspiring with crooked 
lenders to target these unsuspecting first-time homebuyers. By 
providing misleading and often false information, predatory 
lenders, brokers, and home improvement contractors were 
manipulating borrowers into loans that could only result in 
defaults. The loans were rife with high fees, high points, 
hidden balloon payments, and the flippers were buying up 
houses, making quick cosmetic fixes to them so they could be 
sold at inflated prices.
    People were being robbed of their savings, and what should 
have been the American dream turned into the American 
nightmare.
    I was shocked and outraged, as I know you have been, 
because of what was happening to the poor, to the taxpayer, and 
to the neighborhoods.
    As the ranking member of the VA/HUD Subcommittee, I turned 
to another colleague, our mutual friend, Senator Bond, the 
chairman of that subcommittee, to see if I could hold a field 
hearing in Baltimore. I cannot thank Senator Bond enough for 
his bipartisan cooperation through the VA/HUD Subcommittee to 
at least begin some of this activity. Senator Bond agreed to 
have this hearing in Baltimore, and we moved on it.
    We heard from victims. You are going to hear from them 
today. I will just say this: There was one lady who worked so 
hard. She bought a home. She thought for $500 a month she was 
going to pay this house off in 15 years. Well, guess what? She 
had a balloon payment of $57,000 in the final year. We heard 
stories and stories like that. You will hear from them.
    Our witnesses had a lot of courage, and I want to thank 
them for coming forward to tell their stories. But as you said, 
it is just not going on in Baltimore. It is a cancer destroying 
our neighborhoods.
    The National Consumer Law Center estimates that there are 
over 600,000 Americans who may lose their homes because they 
were duped into bad loans. And, Senator Collins, I was afraid 
that this was going to be another S&L thing. What do I mean by 
that? Every time they go into default, FHA has to foreclose. 
The taxpayer loses while the homeowner loses. And as they go 
into default, we could be losing as much as $20,000, $30,000, 
or $40,000 on a house, and the taxpayer is holding the 
liability. We were being ripped off in two ways: The poor and 
the taxpayer.
    Well, what we found in Baltimore was horrifying. Two 
thousand properties in Baltimore were bought and resold within 
120 days. Two thousand properties, moving stressed 
neighborhoods to siege, at 100 percent profit.
    I don't know if that is a vote or I get so excited my 
beeper goes off, like an EKG here. [Laughter.]
    Senator Mikulski. Let me just put this here.
    Unfortunately, FHA has been an accomplice to the flippers 
and the predatory lenders due to the large inventory of FHA-
owned homes that were ripe for flippers. The stock of FHA 
housing had deteriorated, and houses were available for 
depressed prices. See, some of the places were doubly flipped. 
An FHA house goes into foreclosure, but another sham or dummy 
corporation buys the foreclosed house and starts the same scam. 
The scum start the same scam all over again.
    Well, you and I want to stop the poor from being gouged, 
the taxpayer from being ripped off, and our neighborhoods from 
being destroyed.
    After the Baltimore hearing, I had what was called, I think 
in diplomacy terms, a frank and candid conversation with 
Secretary Cuomo and said you are either going to have to get 
into this yourself or you are going to face Senators Bond, 
Mikulski, Collins, and so on--and, of course, Senator Sarbanes. 
And I asked him to establish two task forces that I hope 
provide guidance to the Subcommittee. One was a national one on 
mortgage lending and so on, and it was involved with the 
Department of Treasury. I bring that to your attention. The 
other was the Baltimore task force because we were the worst in 
the Nation. And thanks to the openness of Mayor O'Malley, our 
new mayor, we said we are ready for Baltimore to be the 
laboratory, examine us. And I tell you, Senator Collins, we 
found under every rock was another rock, and under that rock 
was worms.
    Those predatory lenders were actually meeting in cafes in 
Baltimore, swapping notes and tips and techniques on how to 
really gouge the poor and the taxpayer. They actually met to do 
this.
    Well, our able U.S. Attorney got in on this, postal 
inspectors, and the FBI. These will be part of the kind of 
things that the Subcommittee can draw upon.
    But I will say this: Once Cuomo got into it, things have 
really begun to develop. Out of the two task forces, they have 
the recommendations on a prevention plan:
    One, early detection of problem loans and early detection 
of problem lenders. This means a lot of consumer information so 
that people like the unsuspecting buyers don't get into it;
    Second, using technology for credit watches, and provides 
assistance to the people who have now been victimized;
    And then, third, identifying and prosecuting predatory 
lenders and those in that chain.
    And I think if they know that we are coming, they are going 
to go. We already have anecdotal evidence that the aggressive 
activity in Baltimore has reduced flipping by about 80 percent, 
and it is because they know we are coming after them, and they 
could lose their license, they could go to jail, and maybe they 
have to lose their home.
    So this is the kind of Federal commitment that we want. 
Senator Sarbanes and I introduced legislation yesterday called 
``Credit Watch.'' We invite it to your attention because, 
again, the predatory crowd was going to use the law to evade 
the law, saying we had no authority to come after them. So we 
are ready to get involved with that. Again, as a result of your 
hearings, we hope that you have the kind of recommendations we 
could work on on a bipartisan basis.
    I bring to your attention the national task force. They 
have 50 recommendations to stop predatory lending. Let them 
tell you what they are. I just want you to be aware of them. 
But we do have a whole series of things that could deal with 
it: Real estate settlement procedures, also zeroing in on 
harmful sales practices, and also a way to restrict abusive 
conditions of high-cost loans.
    We are also inviting Fannie Mae, Freddie Mac, and Federal 
Home to really get in for a major consumer education program 
for the poor.
    We are also recommending the Community Reinvestment Act 
encourage lenders to move people from sub-prime markets to the 
conventional. It is the sub-prime area where it is also going 
on.
    I really applaud--Cuomo really got into this, and I want to 
bring that to your attention. And through this National 
Predatory Lending Task Force, they do have a blueprint.
    Now, this is the Baltimore Task Force Report.\1\ I am going 
to give this to you and to the Subcommittee. It is replete with 
pictures and so on about how this was actually done.
---------------------------------------------------------------------------
    \1\ See Exhibit No. 2 which appears in the Appendix on page 117.
---------------------------------------------------------------------------
    I believe you have many other witnesses and we have a vote. 
I would like you to hear from the people who have come from all 
over the country. You and I can talk again to really move on 
this issue. But I believe that we have got a momentum going. 
Both at HUD and through your hearings, we really are able to 
work on it.
    Madam Senator, I invite you to come to Baltimore sometime 
because we are work in progress. We have not solved our 
problems, but we have got everybody on the edge of their chair 
now working to solve the problems, to protect the poor, to 
protect the taxpayer, and to protect the neighborhoods. And, 
after all, that is what the U.S. Government, as big as it is, 
should be able to do.
    So we thank you for your leadership and look forward to 
working with you.
    Senator Collins. Thank you very much, Senator. I am, as 
always, very impressed with the dedication and the amount of 
work you have done on this very important issue. Without your 
leadership, we never would have had this report. We will put it 
in our hearing record so that all may have the advantage of it, 
and I really commend you your leadership.
    We have a series of two votes on now. I am going to recess 
the hearing for about 15 minutes, and then I will come back and 
we will swear in our next panel.
    Senator Mikulski. Good, and I really look forward to 
working with you because, I tell you, I think if we had a 
bipartisan effort here, we can really get to the bottom of it. 
And hats off, I might say, to the U.S. Attorney, the FBI, and 
the postal inspectors. They were the first to do the 
indictments that then were the early warnings here. So I look 
forward to working with you.
    Senator Collins. Thank you very much.
    The hearing will stand in recess for 15 minutes.
    [Recess.]
    Senator Collins. The Subcommittee will come to order. I 
apologize for the delay that has occurred because of the vote.
    Our second panel of witnesses consists of homebuyers who 
were the victims of property flipping schemes. Each of these 
witnesses is a first-time homebuyer who purchased supposedly 
rehabilitated properties after obtaining mortgages insured by 
the Federal Housing Administration. Each of them, however, was 
victimized by sellers who grossly inflated the value of the 
properties and failed to rehabilitate the homes as promised.
    First, the Subcommittee will hear from Lisa Smith, who 
lives in Fresh Meadows, New York. Ms. Smith is a New York City 
policewoman.
    She will be followed by Sonia Pratts, who lives in 
Hollywood, Florida. Ms. Pratts works as a health care 
assistant.
    Finally, we will hear from Stekeena Rollins, who resides in 
Chicago, Illinois, and provides day-care services at a 
preschool in Chicago.
    I want to thank all of you for being willing to come 
forward and tell your stories. I know it is not easy to talk 
about what has been an absolutely horrible experience for each 
of you. But by doing so, you will help prevent other people 
from being victims of the kinds of schemes that unfortunately 
were perpetrated on you. And you will also be helping us 
formulate public policy to try to prevent this from happening 
to others.
    So I know it is hard for you to tell your personal stories 
in a lot of ways, but you are doing a wonderful service by 
doing so. And I just want to personally express my thanks and 
the thanks of the U.S. Senate for your willingness to come 
forward.
    Under the Subcommittee's rules, all witnesses are required 
to be sworn in, so I am going to ask that you all rise and 
raise your right hand, and I will swear you in.
    Do you swear that the testimony you are about to give to 
the Subcommittee will be the truth, the whole truth, and 
nothing but the truth, so help you, God?
    Ms. Smith. I do.
    Ms. Pratts. I do.
    Ms. Rollins. I do.
    Senator Collins. Thank you.
    You will see that we are going to be using a timing system. 
That is just to help you gauge the length of your remarks. When 
you see an orange light come on, it is time for you to start 
summing up, and when you see a red light start flashing at you, 
you could please conclude your comments. But we are not going 
to be real strict about it, so if you have something that you 
think you need to say to us, feel free to continue. And we will 
put your written testimony in the record in its entirety.
    Ms. Smith, we are going to start with you.

      TESTIMONY OF LISA SMITH,\1\ FRESH MEADOWS, NEW YORK

    Ms. Smith. Good morning. My name is Lisa Smith. I am a 
single mother of three children and a police officer with the 
New York City Police Department.
---------------------------------------------------------------------------
    \1\ The prepared statement of Ms. Smith appears in the Appendix on 
page 77.
---------------------------------------------------------------------------
    Senator Collins. Ms. Smith, excuse me for interrupting you. 
These mikes are a little bit tricky, so if you could make 
sure--I think it is a little high for you, right.
    Ms. Smith. In February 1997, I decided that I wanted to buy 
a house for my family. At the time, we were living in a two-
bedroom apartment that was very small and all the children had 
to share one bedroom. I knew they needed their own personal 
space, and it would be a dream come true if they could have 
their own bedroom. I had recently ended a personal relationship 
that had been hard on the whole family, and I thought it would 
give me a sense of independence to be a single mother buying my 
own home. I knew it would not be easy, but I had no idea about 
the terrible experience I was about to go through.
    One day in April 1997, while looking through a newspaper 
ad, I saw a real estate ad that caught my eye. The name of the 
company that had placed the ad was Lenders Realty in Brooklyn, 
New York. The ad caught my eye because it said that the houses 
were completely renovated and all the closing costs were paid 
and only a low down payment was required. I thought that was 
great and called Lenders. Two women from the company came to my 
apartment. They were very nice and made me feel comfortable. 
They told me that all the houses they sold were foreclosures. I 
didn't understand what that meant, and they explained to me 
that the banks own the houses. I told them what I was looking 
for and the price range I could afford. They told me not to 
worry and said that they would make sure I got a good house 
that was in my price range.
    They took me to a house in South Ozone Park and explained 
that the house was completely renovated. In early May, we went 
to see the house. They said that if I liked it, all I had to do 
was move in. I stood outside and looked at the yellow and brown 
house. It appeared to be well-kept and looked nice. My heart 
was beating fast, and I had a big smile on my face. I had to 
get myself together before I went into what would probably be 
my house. When I went inside, I was so excited. It seemed like 
it had been renovated, and it looked new. I was the happiest 
person in the world that day. They saw the excitement on my 
face and said the house was mine if I wanted it.
    I asked about the roof because it looked like it had fresh 
black tar on it. They told that the roof was new, and so were 
the kitchen, bathrooms, bedrooms, and windows. They also 
explained that if there were any problems with the house, they 
would be repaired before I moved in. I told them I wanted the 
house but wasn't sure if I would be approved for a mortgage. 
They explained that I shouldn't worry and said that they would 
help me get a loan. They then told me if I wanted the house, I 
had to enter into a contract. I didn't know what that meant 
either, so they explained to me that the process of buying a 
house and getting a mortgage began with my signing a contract 
to agree to buy the house. They said I had to go right back to 
Brooklyn with them so the paperwork would start. They explained 
that the house would sell fast if I didn't buy it quickly. I 
couldn't understand why there was a big rush, but I trusted 
them.
    We went back to Lenders Realty office, and a supervisor, a 
woman, told me I should be so proud to have a house for my 
family. I explained that I needed to call a lawyer since my job 
would provide me with free legal services. She told me that it 
wasn't necessary because Lenders would provide a lawyer for me. 
I called the PBA lawyer anyway, and he told me that after the 
contract was written, I should fax it over to him and he would 
review it. I told the Lenders supervisor that, and she seemed 
not to be very happy. She later told me that she had talked to 
the PBA lawyer and that I shouldn't use him because he had made 
me sound stupid and incapable of making any decisions. She also 
told me that I didn't deserve a lawyer that was going to bad-
mouth me. She told me that I should use their lawyer and that 
he was a very good lawyer and would be acting on my best 
interest. If I had to do this again, I would have conferred 
with this lawyer, and he would have never allowed me to sign 
this contract. She also told me that the Lenders would arrange 
for my mortgage and they would take care of everything. I never 
knew things moved so fast when buying a house, and I started to 
feel pressured. But I trusted her.
    In July 1997, we closed on the house. There was so much 
paperwork to fill out. I was really nervous because there was 
so much I didn't understand. I had called the lawyer before the 
closing, and he told me not to worry and said that everything 
would be OK. Then at the closing, the lawyer hardly talked to 
me. When I tried to read the papers, he told me just to sign 
the papers. If I asked a question, he barely answered. Then 
after 2 hours it was over. The house was mine. I paid $129,000.
    The day I moved in was the best day in the world. My 
children were so excited, and they ran into the house to look 
at their bedrooms. But shortly after that, my problems with the 
house started. In August, water started to leak from the light 
fixture in my ceiling into my bedroom. I called a friend who 
was a licensed electrician to come look at the ceiling. He went 
to the roof and noticed that there was tar on the roof and 
explained that there was a weak spot on the roof that needed 
more tar. He told me that he didn't know what was under the tar 
or how bad the situation was. He put more tar on the roof, and 
it seemed to work for a while.
    In September 1997, I couldn't understand why the basement 
floor and stairs were so weak that it felt like you would fall 
right through the floor. Again, I had my friend come to the 
house and pull up the tile from the floor. I couldn't believe 
what I saw. There was a huge hole that had never been repaired. 
It had just been covered over with tile. I couldn't understand 
how someone could put other people at risk of serious injury by 
simply putting tile over such a big hole. Lenders had told me 
that they had paid an inspector to look at the house, and the 
inspector found that the house was in good and safe condition. 
I started to get kind of scared, but I kept remembering that 
Lenders had promised to take care of everything.
    Shortly after I moved in, I began experiencing plumbing 
problems. I called the New York City Department of 
Environmental Protection to complain about flooding. I also 
found out from a neighbor that the house had a long history of 
water problems and had received numerous citations from the 
city. Whenever we turned on the water, the pipes sounded like 
they would explode. On top of that, the house began to shake, 
and I found out that the water from the upstairs bathroom was 
leaking down into the dining room. I couldn't afford to make 
all the repairs on the house, so I had to take out a second 
mortgage for approximately $12,000. I was now paying $1,028 per 
month on my original mortgage and $368 per month on the second. 
I struggled to make the payments and was never late.
    Then in June 1999, the upstairs bathroom started to have 
plumbing problems, and water leaked all over my kitchen and 
dining room. I had a flood in the basement, and all my 
children's summer clothes were ruined. The smell in the 
basement was terrible because the sewage was backed up. As you 
can see from the photographs of the house, sewage backed up 
everywhere. I found more holes in the floor and I was really 
upset. I knew one of the children could be hurt and that it had 
to be repaired. I couldn't afford to make more repairs, so I 
had to take out a third mortgage for the house for $45,000. The 
third mortgage cost me close to $600 per month, but I continued 
to make all the payments.
    When the weather began to get cold, the house was freezing. 
I would turn the thermostat up to 80 degrees, but it would 
still read 45 to 50. There were nights when it was so cold in 
the house that I took my children to a motel. Even though I had 
two comforters on the beds, the children started to get sick. 
When the flooding began in the winter, I couldn't take it 
anymore.
    For a long time, I thought about the house and about my 
family's safety and health. I realized the house was falling 
apart, and I couldn't afford to make all the mortgage payments. 
It was costing me nearly $2,000 a month, and the condition of 
the house wasn't improving. So in January 2000, I decided that 
as much as I didn't want to give up the house, I had to let it 
go. It saddened me much because even with the problems, I loved 
the house. Over the past few years, I had worked so hard to pay 
my bills on time and get good credit. But I had to declare 
bankruptcy and eventually lost my house. What makes it worse is 
that I have since learned that the owner of the house only paid 
$50,000 in December 1996 and then resold it to me 7 months 
later for $129,000.
    I hope this never happens to anyone else. Although my 
credit has been totally destroyed, I feel so much better that I 
left the house. I would never have forgiven myself if someone 
had been seriously hurt in the house. I have learned that in 
the future, regardless of what anyone tells me, I will read 
everything and ask questions. I hope that the people who took 
advantage of me will learn a lesson, too. I pray that I can 
overcome my bitterness that this experience has created, but I 
also know this has made me a stronger person.
    I would be happy to answer any questions the Subcommittee 
may have.
    Senator Collins. Ms. Smith, my heart just aches for you, 
and I am so sorry that you have endured this, and it is so 
unfair that you have had to go through this. We are going to 
help you in every way that we can.
    I do have some questions I want to ask you, but we are 
going to hear from the other two witnesses first. But I just 
want you to know that I am just so sorry that you have had to 
go through this. It really has been a nightmare for you, I 
know.
    Ms. Pratts, would you proceed, please?

        TESTIMONY OF SONIA PRATTS,\1\ HOLLYWOOD, FLORIDA

    Ms. Pratts. Good morning. My name is Sonia Pratts. I live 
in Hollywood, Florida. I am currently employed as an assistant 
manager at Memorial Senior Resource Center in Pembroke Pines, 
Florida. I would like to thank you for inviting me here today 
to tell my story.
---------------------------------------------------------------------------
    \1\ The prepared statement of Ms. Pratts appears in the Appendix on 
page 80.
---------------------------------------------------------------------------
    Two years ago, my husband Carlos and I began driving 
through various neighborhoods in South Florida looking to 
purchase our first home. Neither he nor I had ever owned a 
home. It was our dream to have a home of our own, a place large 
enough for my kids. We were not looking for luxury, but we 
wanted a comfortable home with no problems. We had been saving 
for over 2 years to buy our dream home.
    In October 1997, we were driving through several 
neighborhoods looking at houses for sale when we stopped at an 
open house sponsored by ERA Homeland Realty. After we looked 
through the house, we spoke with the real estate agent. We told 
him that we really liked the house, but he told us that it was 
out of our price range and showed us a second house located at 
6121 Jackson Street, Hollywood, Florida. He then introduced us 
to his boss, Joe Kuruvila, a real estate broker, who told us he 
would like to take care of us.
    The first time we looked at the house on Jackson Street it 
was late at night. The second time was during the day, and we 
could tell it was being worked on. The back room was torn 
apart, and the front room was a mess and lots of garbage 
around. There was a big dumpster full of trash in the front 
yard. We were concerned about the house because of all the work 
it needed. We told Joe that we did not want a house that we 
would have to spend money making repairs on because we were 
using our entire savings for the down payment. Joe told us that 
the house had a new roof and was insulated. Additionally, he 
told us that the entire house would have new windows, new 
doors, and the walls would be as good as new. He also told us 
that we would be able to afford the mortgage payment for the 
house on our income. We foolishly trusted Joe and signed a 
contract to buy the house.
    One day after we signed the contract, my husband Carlos 
drove by to check on the progress of the rehabilitation work 
being done on the house. As he approached the house, he saw a 
code violation notice taped to the house. He went straight to 
Joe's office and asked him about the violation notice. He 
assured him not to worry and said that everything would be 
taken care of before we moved into the house. We did not get a 
home inspection because of the promise from Joe that the house 
would be as good as new when we took it over.
    Joe recommended that we get our mortgage at Hollywood 
Mortgage. We followed his advice, and through Hollywood 
Mortgage we got a loan with something called a ``buydown,'' 
which I still don't understand exactly what this means, but I 
do know that we had told Joe about our tight financial 
situation, and he assured us that under the buydown we would be 
able to afford our mortgage payment.
    On February 20, 1998, we went to Joe's office for the 
closing. Present in addition to Carlos and I was Joe and a 
representative from the title company, Gerald Chapman. We did 
not have a lawyer of our own because Joe told us that he would 
take care of everything. When we finished with the closing, we 
were very excited. We were homeowners. Little did we know what 
was in store for us.
    We moved into the house in February 1998. Approximately 2 
months later, to my shock, I received a notice of code 
violations from the city of Hollywood. The violations included 
lack of permits for windows and the addition to the house. The 
notice required all items to be replaced or fixed. If we failed 
to do so, we would face a fine of up to $200 per day from the 
city.
    The electrical system in the living room is wired wrong. We 
have sockets that did not work and are not hooked up. I am 
concerned that this faulty electrical system will cause a fire. 
The rotted wood in the front room is all that holds the windows 
in place, and continues to fall apart. We have had so many 
problems with the house. It seems to be falling down around us. 
The living room walls are in terrible shape, and the ceilings 
are crumbling. As you can see from these photographs,\1\ there 
is termite damage throughout the house. Mice and rats enter the 
house through holes and, because of a lack of foundation, under 
the addition in the back.
---------------------------------------------------------------------------
    \1\ See Exhibit No. 5.a. which appears in the Appendix on page 178.
---------------------------------------------------------------------------
    The roof is another story. As you can see from this 
photograph, the roof is falling down and leaking. Recently we 
had a storm last week, and that part back there that you see--
the roof fell. It needs to be repaired and insulated. Joe had 
told us that the house would have a new roof, and, in fact, I 
later found out that the roof was listed on the appraisal as 
new. Believe me, the roof is not new. The roof leaks every time 
it rains. We also have birds getting into the house and rats 
crawling around. We can hear them running around at night.
    The appraisal also refers to other repairs that were never 
done. For example, the appraisal stated that the rotted fascia 
and soffits were repaired. That was not done. It also said that 
all the debris was removed from the yard, and that was not 
done. Carlos and I worked to clean up all the garbage left 
behind. From my understanding, the appraisal was used to 
determine the value of my house. I am not an expert, but I 
don't understand how this can be when so many things listed in 
the appraisals were not true. I also don't understand why I was 
never given a copy of the appraisal before closing.
    After closing, we contacted an engineer to look at the 
house in the hope that we could fix the problems we were 
having. The engineer told us that the total cost of repairs 
would be approximately $40,000 and that the majority of the 
house would have to be demolished. So, in other words, if you 
demolish three-fourths of the house that has to be torn down to 
put it on code, then the rest of the house won't be on code; so 
he told us that the whole entire house would have to be 
demolished to be on code.
    When I heard this, I was devastated. We simply don't have 
the money to spend repairing the house, remedying the code 
violations we were stuck with, and making our mortgage 
payments. Because of this buydown mortgage that we were given, 
our payment has ballooned up by more than $200. I am worried 
that we will lose our house because we are really struggling to 
make ends meet.
    We later learned that Joe Kuruvila owned not only the real 
estate agency that sold us the house, but also our mortgage 
lender and even the house itself. We have also learned that Joe 
bought the house from HUD in September 1997 for $44,600 before 
he sold it to us in February 1998 for $80,000. In just 6 
months, he nearly doubled his money. From what I can tell, Joe 
bought the house, made minimal cosmetic repairs, and then sold 
it to us without disclosing the hidden defects. I trusted him 
because he told us that he would make our dream of owning a 
home come true, and he said that he would take care of us. 
Little did I know that he was holding all the cards.
    We spent about a year asking Joe to correct the code 
violations and complaining about the condition of our house, 
and all we heard in response were promises to make things 
right, but we never saw any action. Although we did not want to 
involve the courts, we felt we had little choice but to file a 
lawsuit against him seeking compensation. Our church is paying 
our legal fees, and the suit is presently pending in Broward 
County Circuit court. We have also discussed our problems with 
the State of Florida.
    My life and my husband's life have been devastated. At 
present, we are just getting by on our paychecks and could 
never hope to make the needed repairs or pay a fine. My husband 
and I have been severely damaged by all of this. Our lives are 
in turmoil, and my marriage is deeply hurt. What was once my 
dream home is now a nightmare.
    I will be pleased to answer any questions of the 
Subcommittee. Thank you for giving me the opportunity to tell 
my story.
    Senator Collins. Ms. Pratts, again, I want to thank you for 
telling your story. I know this has been such a painful 
experience for you, as it has been for Ms. Smith. And it is 
just so wrong that this has happened to you, to all three of 
you. It makes me so angry. And that is why we are holding this 
hearing today, and I know it is so hard to tell your stories, 
but you are really helping others avoid what happened to you.
    Ms. Pratts. Yes. This situation is very critical because my 
husband is a schizophrenic, and he has tried to take his life 
already three times. My husband is the kind of person that he 
can't deal with problems. It affects him very, very much, and I 
tried to call him yesterday. I was really worried. I had to 
call him this morning, and he didn't sound too well on the 
phone. So I just hope that something will come of this.
    Senator Collins. Thank you.
    Ms. Rollins, before I turn to you, I want to acknowledge 
that Senator Durbin, who is your Senator, has joined us. He has 
been working very hard on this problem as well, and I know he 
is extremely concerned about the flipping problems that we have 
identified in Chicago. He has worked very hard on this, and I 
know he wanted to be here today specifically to hear your 
testimony as well as the others. So if you would please 
proceed?

      TESTIMONY OF STEKEENA ROLLINS,\1\ CHICAGO, ILLINOIS

    Ms. Rollins. Good morning. My name is Stekeena Rollins. I 
live in the Austin neighborhood of Chicago, Illinois, and I 
teach preschool children.
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    \1\ The prepared statement of Ms. Rollins appears in the Appendix 
on page 83.
---------------------------------------------------------------------------
    In mid-1995, my mother, Shirley Rollins, and I read an 
advertisement in the Chicago Sun Times that said ``Kiss Your 
Landlord Good-bye.'' The ad offered rehabilitated homes for 
sale with low down payments from a company called Easy Life 
Real Estate System. At the time, I was 20 years old and living 
on the northern side of Chicago in an apartment. Neither my 
mother nor I had ever owned a home. I was operating a day-care 
business from my apartment, which I was interested in moving to 
a home setting.
    We felt we could afford the down payment mentioned in the 
ad. So in June 1995, my mother and I visited the Easy Life 
office and met with the sales agent, Peter Sandow. Mr. Sandow 
told us that Easy Life was offering 100 percent ``rehabbed'' 
homes to first-time homebuyers through a special government 
program called FHA. He told us that through this program our 
down payment would only be $500. He asked us some other 
questions about our jobs and how much rent we paid. He told us 
he would get back in touch with us.
    About a week later, we had another meeting with Mr. Sandow. 
He showed us a contract that had no address and told us to sign 
it so that we could get the ball rolling. We signed the 
contract. The price on the contract was $119,000, but Mr. 
Sandow told us that was just a rough draft. This is the price 
we paid for the house. I have recently learned that Easy Life 
purchased the home for $14,000 in May 1995.
    He showed us some pictures of homes and then took us to see 
some of them. They were in terrible neighborhoods, surrounded 
by abandoned houses. We told him we didn't like the areas and 
that we wanted to buy a home on the north side so that my day-
care clients could be close. Mr. Sandow told us that Easy Life 
does not have any homes for sale on the north side, but asked 
if we were interested in buying a home in Oak Park. I thought 
that my clients would come to Oak Park, a suburb just west of 
Chicago, so we said yes.
    Mr. Sandow drove us to the house he said was in Oak Park. 
It was visibly fire-damaged and had been abandoned for some 
time. It was completely gutted and was under construction. Mr. 
Sandow told us many parts of the house were too unsafe for us 
to see, but it looked fairly large. We thought it would work 
well for my day-care business. When I pointed out to him the 
crumbling walkway, the holes in the foundation, and the 
unstable foundation supporting the back porch, he again told us 
that the house would be totally rehabbed and that everything 
would be new by the time we moved in. I explained to Mr. Sandow 
that the first floor would need to be modified to meet State 
licensing requirements for a day-care business. He said that 
would be no problem. In fact, he even met with a State day-care 
licensing representative to discuss the requirements for 
modifying the house. We were very excited and thought our 
dreams were coming true.
    We saw the house again with Mr. Sandow in mid-July. On this 
visit we saw the basement for the first time. My mom told Mr. 
Sandow that we would need another bedroom in the basement. He 
said that it would be taken care of. On the second floor, we 
saw the stairs were cut too steep going up into the third floor 
and that the ceiling on the third floor was very low. I asked 
Mr. Sandow if he could change the ceiling so that we could use 
the third floor for bedrooms. I also asked him to fix the 
stairs so that they wouldn't be such a hazard. He said it would 
be no problem.
    After that, I tried to go back to the house several times, 
but the house sitter who was staying there would not let me in. 
Other times the workmen wouldn't let us in. When we asked Mr. 
Sandow about it, he told us that everything was going fine and 
not to worry.
    About a month before the closing, we found out from a 
family friend familiar with the west side that the house was 
not in Oak Park as Mr. Sandow had told us. Instead, the house 
was located in the Austin neighborhood of Chicago. My mother 
and I were very upset and confronted Mr. Sandow. He admitted 
that the house was not in Oak Park, but he told us that it was 
too late to back out now.
    Before the closing, Mr. Sandow told us that he had found a 
company that was willing to give us a loan. We met the 
gentleman from Dependable Mortgage at Easy Life's office. He 
told us that all we had to do is fill out some paperwork and 
everything would be fine. Neither he nor anybody else explained 
to us we would have an adjustable rate mortgage. In fact, at 
the time we did not know what an adjustable rate mortgage was 
and had no idea that our mortgage could increase.
    Also, before the closing, my mother asked Mr. Sandow if we 
needed to do anything else. Mr. Sandow told us that, as part of 
the special government program, Easy Life would supply a lawyer 
to represent us, conduct a home inspection for us, and have 
termite control specialists examine the house. At the closing 
in September 1995, the Easy Life lawyer gave us a lot of papers 
to sign, but he didn't explain anything about them. He seemed 
to be in a hurry and said he had a boat to catch. We didn't 
understand everything we were signing, but we trusted the 
lawyer and signed the papers anyway.
    We moved into the house about 1 week later. I noticed right 
away that Easy Life had not done the work required for my day-
care license. When I called Mr. Sandow to complain, he said, 
``Don't worry, go ahead and move in and we'll work around 
you.'' I kept calling Mr. Sandow, but the modifications were 
never made, and I was never able to get my day-care license.
    We soon began noticing other problems with the house. As 
you can see from these photographs, the house has a dangerous 
furnace which has resulted in numerous instances of overheating 
and burnouts of the gas regulator, a narrow and dangerous 
stairway to the basement, an overloaded and leaky roof with 
three or more layers, a garage that is leaning severely and is 
unstable--unusable, a damaged ceiling in the first-floor 
bedroom from a constantly leaking toilet, a second-floor deck 
that is improperly nailed through the roof, and the poor 
ceramic tile that has come loose. Underneath the cheap carpets 
Easy Life installed were the same burnt wooden floors that I 
had seen the first time when I looked at the house. In 
addition, the walkways that Mr. Sandow had promised to repair 
were crumbling, and the foundation under the back porch was 
still unstable. The floors in some areas of the house didn't 
meet the walls, which allowed rain and snow to enter the house. 
The light sockets sparked and the toilets overflowed.
    I complained about ten different times to Easy Life about 
the problems in the house. In response, Easy Life sent some 
workmen to the house on several occasions. They did some 
caulking, nailed down the front steps, and put a patch on the 
second floor toilet, and installed a ventilation system in the 
attic. But the work that they did only lasted 1 or 2 days, and 
then the problems would come right back.
    We have had many other problems with the house since we 
moved in. The representatives from the gas company have come 
out to the home several times because of leaks in the furnace. 
They had to disconnect the gas and the piping, and they told us 
that the piping was old and improperly attached. They also told 
us that the furnace is unsafe. We have seen termites swarming, 
the plumbing leaks, and the garage is leaning heavily to one 
side. The windows were improperly installed and there is no 
insulation. Instead, as you can see from the photograph,\1\ 
cheap new siding was installed over the burned wooden exterior, 
so cold air comes right through into the house in the winter.
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    \1\ See Exhibit No. 3.a. which appears in the Appendix on page 169.
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    My mother and I have tried our best to make the repairs, 
but cannot afford to put the kind of money into the house that 
it needs to make everything right. I estimate that we have 
spent several thousand dollars of our own money to keep the 
house from falling apart. We have not been able to keep up our 
mortgage payments because they kept going up. Right now there 
is a foreclosure case pending against us, and we are afraid of 
losing our house.
    I appreciate the opportunity to tell my story here today. I 
will be glad to answer any questions the Subcommittee has.
    I would also like to state that Ms. Gladys Hall is also a 
member of the same neighborhood that I live in. We also 
purchased the same home from Easy Life Real Estate. I would 
also again like to thank Counsel Nina Vinik for allowing me to 
have this opportunity to come here today and to state the 
problems not only that Chicago is having but that faces many 
different cities in the United States. I would like to say to 
Senator Durbin, I know that you have been working with us, and 
I know that this is going to take time. But, please keep us in 
mind. We will do everything that we can to support you in 
helping other cities, not only just Chicago, to get this 
problem resolved. Easy Life has devastated Chicago, not just 
South Austin, but devastated Chicago and its entities.
    Thank you.
    Senator Collins. Thank you, Ms. Rollins. You were very 
eloquent in describing what happened to you and how your dream 
of opening the day-care center turned out to be a nightmare as 
well.
    I just want to clarify on the one last photo. This is your 
mother. Is that correct?
    Ms. Rollins. Yes.
    Senator Collins. And she was involved in buying the house 
with you.
    Ms. Rollins. Yes.
    Senator Collins. Before I go to questions, I want to call 
upon Senator Durbin for any opening comments that he might want 
to have.

              OPENING STATEMENT OF SENATOR DURBIN

    Senator Durbin. Thank you, Madam Chairman, and I am going 
to be brief because I want to ask a few questions, as I am sure 
you do, too. But first let me compliment the Chairman of the 
Subcommittee, Senator Collins. This Subcommittee is such a 
breath of fresh air. We bring stories before us here that are 
troubling, upsetting, but it is the real world. And, 
unfortunately, too many times in Congress we entertain people 
in nice suits, high rollers who come and tell us stories based 
on statistics and theories and don't bring real families and 
real concerns before this Congress. This Subcommittee is a 
notable exception, and I want to congratulate Chairman Collins 
for this hearing and for gathering these witnesses, who really 
tell us a story that everyone in Congress should hear.
    Ms. Smith, thank you for being here, and as a New York 
police officer, you are doing your duty to your city, and you 
never should have gone through this experience.
    Ms. Pratts, as you talked about the family circumstances 
that you are facing, with the health problems, it is amazing 
that you can make it through this ordeal, but to have that on 
top of it is a tribute to your strength. Thank you for being 
here.
    And, Ms. Rollins, thank you for coming and telling the 
story from the Chicago perspective. I am glad to hear that you 
are working with the South Austin Coalition Community Council. 
This is a good group. They really fight for people. And I have 
worked with them in the past on a lot of different issues like 
LIHEAP and energy assistance.
    I want to say in my opening statement that this hearing is 
about government letting people down. That is what this is 
about. It is about the Department of Housing and Urban 
Development, as the GAO report spells out, failing to keep an 
eye on these lenders who are taking advantage of innocent 
people, like Ms. Rollins, who, with her mother, had a dream of 
owning a home for the first time in their lives and saw this 
dream disintegrate.
    FHA needs to do a better job of keeping businesses like 
Easy Life off the street. We have got to get rid of these loan 
leeches and real estate reptiles that are out there taking 
advantage of ordinary people. And that means that HUD has to do 
a better job, and we have to hold them to a higher standard. 
And though they may be improving their situation, they can 
still do a better job.
    I will join Senator Collins in a bipartisan plea and 
demand, if you will, that HUD do a better job of policing the 
ranks of people who sell these homes and finance these homes.
    Now, there is another failure of government involved here, 
too. What we are seeing before this Subcommittee today in this 
panel are people who are right on the edge of bankruptcy. Ms. 
Smith, if I am not mistaken, you indicated that you filed for 
bankruptcy already.
    Ms. Smith. Yes.
    Senator Durbin. I don't know the situation of Ms. Pratts 
and Ms. Rollins, but you can understand with foreclosure 
proceedings being filed what they could face.
    We debate the bankruptcy law in theory, about people who 
are abusing the bankruptcy court. Listen to these stores, real-
life stories of people on the edge headed to the bankruptcy 
court. I hope the other two of our witnesses can avoid it. But 
that ought to be a reminder to all of us that this bankruptcy 
debate we have been in for years is about people just like 
those who have joined us today.
    Last November, I introduced an amendment on the floor of 
the U.S. Senate, and this is what it said: Predatory lenders 
who deceive people like the three who have gathered before us 
today into signing documents that they could never honor nor 
deal with balloon payments and worthless pieces of real estate, 
should not have the protection of the bankruptcy court. These 
lenders should not be able to walk into bankruptcy court and 
demand from these three families full payment for their 
deceptive loans. I think the courts ought to close the doors to 
those folks. They have violated the law. They shouldn't have 
the protection of the bankruptcy court to collect.
    You know what? I lost that amendment. The vote was 51-47. I 
couldn't get a majority in the U.S. Senate to agree with me 
that those predatory lenders have no place there. And the group 
that opposed me was the other lenders and the other banks who 
said, well, we don't want to get the government involved in 
credit practices.
    Listen to these stories and tell me that government 
shouldn't be involved in keeping an eye on these predatory 
lenders. I just wish my colleagues in the Senate could be here 
with Senator Collins and myself today to hear these stories. We 
might have had a different result on that bankruptcy amendment 
on predatory lending.
    Thank you, Madam Chair.
    Senator Collins. Thank you, Senator Durbin.
    Ms. Smith, I would like to ask you a few more questions, 
and I would like to ask the staff to put up the picture of the 
toilet from Ms. Smith's house.\1\
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    \1\ See Exhibit No. 4.a. which appears in the Appendix on page 176.
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    From the photographs we have seen of your house--and we 
have seen many of them--you have obviously experienced very 
severe problems. And I just want to make sure I understand what 
I am seeing in this photograph. It looks to me like raw sewage 
is coming up out of the toilet and spilling out all over the 
floor. Is that what I am seeing here?
    Ms. Smith. Yes. What it was, when you flushed the toilet 
from upstairs, it would come out of the toilet from the 
basement.
    Senator Collins. My staff visited your house, as you are 
well aware, and they said the stench from this was just 
overwhelming. There was no way anyone could live in your house. 
And in addition to being unpleasant, it is obviously a safety 
hazard.
    Ms. Smith. Yes.
    Senator Collins. Was that part of your concern about having 
your children living there?
    Ms. Smith. Yes, because at the time my son--I had made him 
a nice room in the basement--so I had to move him out of the 
basement because we started getting a lot of mold and the 
flooding, the feces all over the place. So I had to move the 
kids, everyone upstairs.
    Senator Collins. Did you ever talk to anyone about making 
repairs on this problem?
    Ms. Smith. I had spoken to Lenders, and basically they 
weren't any help to me. They were OK in the beginning when they 
knew I was excited about the house. But once the problems 
started, I was on my own.
    Senator Collins. And this was despite the fact that the 
sales contract that you signed said that the seller would make 
all necessary repairs. Is that right?
    Ms. Smith. Yes.
    Senator Collins. So you essentially were lied to, weren't 
you?
    Ms. Smith. Yes.
    Senator Collins. You were deceived about the condition of 
the house, and then when it became obvious that very major 
repairs were needed to make it fit for you and your family to 
live there, they refused to make the repairs. Is that right?
    Ms. Smith. Yes.
    Senator Collins. Now, it is my understanding you did talk 
to a contractor about this particular plumbing problem, and 
what were you told? Were you told that it was something that 
could easily be fixed? Or was it a major problem?
    Ms. Smith. He said it was a major problem. Basically they 
would have to gut it, gut the whole basement, the walls, 
everything. Everything was behind the walls. And it would cost 
me a lot of money to have it fixed.
    Senator Collins. We also have some pictures of your house--
and I don't know whether we have them with us or not--of the 
windows and the doors with plastic over them. Obviously you 
were trying to keep out the cold. You said it was cold, even 
though you turned up the thermostat to 85. Did you ever find 
out whether the home was insulated?
    Ms. Smith. Well, what happened was, with one of the home 
improvements, they had took down some of the siding, and there 
was no insulation at all. It was just wood there.
    Senator Collins. Were you also concerned about the safety 
of your children because of the problems you told me about with 
the holes being discovered when you peeled back the floor?
    Ms. Smith. Yes.
    Senator Collins. What was your concern?
    Ms. Smith. Well, with the holes that was in the floor, you 
could either break a leg, the hole that was leading to the 
basement, we could have fell through the floor, that is how big 
it was.
    Senator Collins. That is extraordinary, and that was 
concealed, deliberately concealed by the placement of the tile 
over the hole.
    Ms. Smith. Yes, just tile.
    Senator Collins. Now, you testified that you felt as though 
you were being rushed through the whole process, and that you 
were discouraged from asking any questions. Is that correct?
    Ms. Smith. Yes.
    Senator Collins. What was your concern? Were you concerned 
that you would lose the house. Did they give you the impression 
that if you didn't act now, someone else was going to snap up 
what appeared to be a good house?
    Ms. Smith. Well, basically they said that the houses go 
fast, this is a great buy, I am getting a good price on the 
house, and this is my house and they wanted to make sure that I 
get this house.
    Senator Collins. And I understand that you decided to not 
have a home inspection of the house, which would have revealed 
a lot of these problems. Why did you decide not to get the home 
inspected before you bought it?
    Ms. Smith. Well, basically they had told me, Don't worry, 
everything is OK, and that they had the house inspected, and 
that they would never let me move into a house that was unsafe.
    Senator Collins. So you thought it was pointless to pay for 
a home inspection because you had been told by Lenders Realty 
that it already had been inspected and it was fine. Is that a 
fair statement?
    Ms. Smith. Yes.
    Senator Collins. So you thought, well, why bother to pay 
for a second inspection?
    Ms. Smith. Right.
    Senator Collins. How did you select the bank for your 
mortgage?
    Ms. Smith. I didn't select a bank. Lenders selected the 
bank.
    Senator Collins. And they told you they would take care of 
everything, and just as they made the false assurances that if 
there were any repairs necessary, they would take care of those 
as well?
    Ms. Smith. Yes.
    Senator Collins. When you bought the house for $129,000, 
did you have any idea that just 7 months earlier the seller had 
purchased it for $50,000?
    Ms. Smith. No, not at all.
    Senator Collins. Was it our staff who told you that for the 
first time?
    Ms. Smith. Yes, and I was devastated.
    Senator Collins. So had you known that just 7 months 
earlier this house had been purchased for less than half of 
what you paid for it, would that have been a red flag to you?
    Ms. Smith. Yes. I wouldn't have bought it.
    Senator Collins. Ms. Smith, just one final question for 
you. You have testified that you had no choice but to default 
on the mortgage. You obviously couldn't afford all those 
repairs. It has been an awful experience for you. Are you 
living in an apartment now? Have you moved back into rental 
housing, or what are you doing now?
    Ms. Smith. Rental housing.
    Senator Collins. And you have had to file bankruptcy. How 
has this horrible experience affected you and your family?
    Ms. Smith. A lot of stress. I mean, I am back to square 
one. I had a house that I wanted for my children, and now I am 
back in an apartment again, and they are back sharing one 
bedroom. And it is hard, but at least I could say that they are 
safe and they are happy.
    Senator Collins. I thank you again very much for coming 
forward. It is so awful that you were deceived in this way, and 
I can imagine your joy at owning a home and having what 
appeared to be a wonderful new home for your children, only to 
have it end this way. And, again, we will help you in every way 
that we can.
    One of the actions I am going to take is to ask HUD what 
they are doing not only to assist you personally but also to 
take action against the people involved in the flipping scheme 
that has affected you so detrimentally.
    Ms. Pratts, I understand that you also decided not to get a 
home inspection before you bought your home. Can you explain to 
us why you didn't get the inspection?
    Ms. Pratts. When we went to see Joe Kuruvila, my husband 
and I, we asked him if we had to do anything for the house, and 
he said no, that he would take care of it: ``Because you are a 
first-time buyer, we are going to take care of everything for 
you.'' So that is the reason why we didn't get a home inspector 
or anything like that.
    Senator Collins. So you thought everything had been taken 
care of, you received all these assurances, and you testified 
that you specifically told the seller that this was a stretch 
for you financially, that you had saved and saved in order to 
come up with the down payment that you needed, and that you 
didn't want a house that needed a lot of repairs. Is that 
correct?
    Ms. Pratts. Exactly. Even my husband told him, we came 
here, I am glad you showed us the house, we came here not only 
for that but I want to make sure that we don't have to spend 
any money on the house or anything because we can't afford it. 
And, actually, we did spend money on the house. We still have 
the receipt from Home Depot, $2,500 that we already spent so 
far. The rest we couldn't pay for or fix or anything because we 
can't afford it.
    Senator Collins. So you made it really clear that you 
weren't looking for a fixer-upper where you would have to spend 
a lot of money to renovate the house.
    Ms. Pratts. Exactly.
    Senator Collins. Because you were using all of your savings 
in order to afford the down payment and get into the house. Is 
that right?
    Ms. Pratts. Exactly.
    Senator Collins. And, once again, I want to emphasize that 
you were told by the seller that the house would be completely 
renovated, and indeed, it appeared renovations were going on. 
Is that accurate?
    Ms. Pratts. Yes. He was fixing the house, all right, but he 
was fixing it with people that didn't have a license or 
building permit or anything at all whatsoever. That is how the 
violation came up, and then more of the violations came up. 
This house had violations since 1982.
    Senator Collins. You are talking about code violations, 
correct?
    Ms. Pratts. Yes.
    Senator Collins. So when you moved into the house, you find 
out there are all these problems, you actually get a notice of 
code violations, for which you personally were going to be 
fined, is that right?
    Ms. Pratts. Yes.
    Senator Collins. So what happened? Did you confront the 
seller? Did you go back--could you talk a little bit about 
that?
    Ms. Pratts. We went over to him, and we asked him about all 
these violations, and he said that he would take care of it. 
And we went a couple of times to take care of it. It so happens 
that I myself went into an investigation to see how in the heck 
did we get this loan. And when I went to investigate, that 
house did not have termite inspection, roof inspection, or 
anything at all whatsoever.
    Senator Collins. So none of what you had been promised was 
done.
    Ms. Pratts. No.
    Senator Collins. And you obviously trusted the seller that 
not only was the house completely rehabilitated but that he 
would take care of the code violations and any other problems?
    Ms. Pratts. Yes.
    Senator Collins. Let me ask you one more question before 
turning to Senator Durbin for his questions, and then I will 
come back to Ms. Rollins for some questions that I have for 
her. It is similar to the question that I asked Ms. Smith. At 
the time that you bought the house--and you paid, I think, 
$80,000 for it? Is that correct, was it $80,000?
    Ms. Pratts. Yes.
    Senator Collins. Did you have any idea that Joe Kuruvila 
had paid only $44,600 for the house just 5 months before?
    Ms. Pratts. I didn't know any of that at all whatsoever, 
but my son, when he came from New York--he was transferred 
here--he said, Mom, we could find out how much that house cost.
    So my daughter-in-law's cousin, he is a realtor, he looked 
it up on the Internet, and when I saw the price, I nearly had a 
heart attack. In fact, my husband was so upset, he went over to 
the office and told him a thing or two. And he promised us so 
many things, and then I said, you know what? We are going to 
take care of it. So that is how we got our lawyer, through our 
church, and so up to this date, they are taking care of it.
    Senator Collins. So had you known that it was being sold to 
you for almost double the price just 5 months later, you never 
would have bought the house?
    Ms. Pratts. I wouldn't have bought it.
    Senator Collins. Senator Durbin.
    Senator Durbin. Thank you, Madam Chair.
    I think some of your questions and answers really make it 
clear what a cruel experience you have been through. If I am 
not mistaken, this was your first homeownership experience, 
something you had never been through this before, and you 
didn't quite know what you were getting into. You were pushed 
to the limit on payments by people who were trying to get you 
to sign these contracts and clearly were deceived in terms of 
the product that you were trying to purchase.
    I would like to ask a few questions, if I could, of Ms. 
Rollins. Is Easy Life Real Estate still in business?
    Ms. Rollins. No. They have since moved on, and they have 
started other companies. That is why I stated earlier it is 
entities because they have moved on to other companies and use 
different names. Same tactics, different name.
    Senator Durbin. But are they still around? I mean, could 
you pick out the people that are still involved in this?
    Ms. Rollins. As far as the real estate agents, to my 
knowledge, some of them have moved on and started their own 
development projects. The real estate agent that sold me my 
home, he has started some housing, like fast-track housing near 
the United Center. So, they have moved on. It seems to be after 
they make so much money and then when this situation came up, 
everybody kind of scattered and went about their own ways, and 
some folks have totally disappeared.
    Senator Durbin. Cockroaches will scatter when you turn on 
the lights.
    Let me ask you, this fellow who did the appraisal on your 
house, James----
    Ms. Rollins. Koechle.
    Senator Durbin. Is that how you pronounce it? He was 
indicted by a Federal grand jury, as I understand.
    Ms. Rollins. Yes.
    Senator Durbin. Do you know of anyone else who has been 
indicted as a result of what happened to you?
    Ms. Rollins. No.
    Senator Durbin. Have you reported the people who were 
involved in your transaction to State and local agencies so 
that they know the experience you have been through?
    Ms. Rollins. Yes. The State's Attorney's office, I have 
talked to two agents that worked for the Federal Bureau of 
Investigations. I have touched bases with a lot of people about 
this case, so it is well known in Chicago.
    Senator Durbin. Is Dependable Mortgage still in business?
    Ms. Rollins. I have no idea. I can't say yes or no.
    Senator Durbin. Madam Chair, I would like to put into the 
record here a chart which is interesting. It shows the 
foreclosures in the Chicagoland area.\1\ And these do not 
include FHA and VA foreclosures. In 1993, there were 94 
foreclosures. In 1998, the figure is up to 3,502, not including 
FHA and VA. So there is a dramatic effort by these sub-prime 
lenders to drag people into these real estate deals that they 
know they can't pay off. And it isn't just young families such 
as those represented here today. There are a lot of senior 
citizens who are being victimized--your mother, of course, is 
in your home purchase deal, but there are senior citizens who 
are being victimized as well.
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    \1\ See Exhibit No. 6 which appears in the Appendix on page 181.
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    I would like to spend a minute, if I could, talking about 
what has happened as a result of this. Ms. Smith, you say you 
have gone to bankruptcy court. Is that correct?
    Ms. Smith. Yes.
    Senator Durbin. And the people who gave you the mortgage on 
your home, are they filing a claim against you in bankruptcy 
court?
    Ms. Smith. Yes. Now the house is in foreclosure.
    Senator Durbin. It is in foreclosure. So the company that 
loaned you the money for the purchase of the home is basically 
suing you to pay off the balance on the loan.
    Ms. Smith. Yes.
    Senator Durbin. Ms. Pratts, have they started foreclosure 
proceedings against you yet?
    Ms. Pratts. Not yet, but I know for a fact my house doesn't 
have insurance now. I just sent out an application for 
insurance through the Principal Residential Mortgage, and I am 
thinking about having a bankruptcy because I am the only one 
working now. My husband doesn't have a job right now.
    Senator Durbin. And you said you have been unable to keep 
up with the mortgage payments because of the expenses?
    Ms. Pratts. I pay my mortgage, but late. But I have to pay 
the interest, which is $34.
    Senator Durbin. I see.
    Ms. Rollins, what is your situation? Have they filed a 
foreclosure action against you?
    Ms. Rollins. Yes. I am currently in foreclosure, just 
waiting for basically the notices to come in the mail to tell 
me exactly what I need to do. I am involved with the Legal Aid 
Foundation. They are in litigation right now, and they are 
trying to get some loss mitigation going. But other than that, 
I am just basically waiting, but by no means will I file 
bankruptcy.
    Senator Durbin. You don't want to do that?
    Ms. Rollins. No.
    Senator Durbin. Are you still living in the house?
    Ms. Rollins. Yes.
    Senator Durbin. Well, I think it is clear, Madam Chair, 
from the record here what happens. It isn't just a bad deal and 
a tragic story. It ends up in a legal proceeding where the 
people who have deceived you are now going into our courts and 
saying the law is on their side. Isn't that amazing that the 
law would be on their side with all of this happening to you, 
all of the deception and all of the exploitation that has been 
involved in it? And to think in bankruptcy court that they are 
going to be standing in line and sifting through whatever 
assets you have left and saying we are going to take as much of 
this as we can. That to me is an outrage. And it is a shame 
that we in Congress didn't summon the will to deal with that 
directly.
    We are going to have testimony a little later about FHA and 
whether they have done a good job in keeping people out of this 
business like the dregs of the credit and real estate industry 
with whom you have been involved. But thank you for your 
testimony today. It really has had an impact on us.
    Thank you, Madam Chair.
    Senator Collins. Thank you, Senator Durbin.
    Ms. Rollins, let me follow up on what Senator Durbin was 
saying. Did the fact that you knew your mortgage was insured by 
the Federal Government give you a sense of security, of 
thinking, surely, if the Federal Government is standing behind 
the mortgage on my house, the house is going to be in good 
condition?
    Ms. Rollins. Yes. That was the whole reason for me 
continuing with this process because the first visit with Mr. 
Sandow was kind of sketchy. I got kind of--some red flags went 
up, but after he had said it to me that HUD and FHA would work 
together and this was a program, a pilot program that they were 
starting in Chicago, I felt a little more confident about 
making the choice and going ahead with the process.
    Senator Collins. See, I think that is a very logical 
conclusion for you to have drawn. Clearly, when you see that 
your loan is backed by the Federal Government, you should be 
able to assume that the house that you are buying is in good 
condition. And I agree with Senator Durbin, and as I said in my 
opening statement, I think HUD in some ways has been an 
accomplice to the problem. I think that it bears a great deal 
of responsibility for allowing the flipping problem to go 
unchecked for so long. They have taken some recent steps, but 
this problem has been going on for a long time.
    I want to ask you about--I want to show you a form that was 
signed by the seller of the house that you bought.\1\ Now, you 
have testified that you were told that the house was going to 
be completely rehabilitated before you moved into it, and this 
form--is there a copy? Could we provide a copy for Ms. Rollins? 
Because it is a little hard to see from here.
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    \1\ See Exhibit No. 3.b. which appears in the Appendix on page 174.
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    This is a disclosure form that the seller signed indicating 
that the house is basically free of major defects. For example, 
the form indicates that the seller was aware of no major 
problems in the walls or floors, no material defects in the 
electrical system, no material defects in the plumbing system. 
And you and your mother signed the form to show that you 
received it.
    Was this form one of the reasons why you felt that the 
house was fine? Because here you have a signed statement from 
the seller certifying that it was free of these defects. Was 
this something you relied upon?
    Ms. Rollins. Yes.
    Senator Collins. And based on your experience, it is 
obvious that the seller misled you, that he wasn't telling the 
truth on this form. Is that correct?
    Ms. Rollins. Yes.
    Senator Collins. Now, let's go through a few of the 
specifics. The seller stated that he wasn't aware of any 
problems with the walls, the floors, or the foundation. Now, I 
understand that you found spaces that had developed between the 
floors and the walls and that the foundation is crumbling. Is 
that accurate?
    Ms. Rollins. Yes.
    Senator Collins. Could you tell us more about the problems 
with the walls and the floors and the foundation?
    Ms. Rollins. Basically the foundation was crumbling from 
the very first time that I went to look at the home. Mr. Sandow 
told me that it would be repaired. It has not been repaired.
    The walls and the floors have never met. When I visited the 
home on the first occasion, like I said, it was fire-damaged. 
It was always like that. What they did was when they put the 
new dry wall in and the border around the floor, that kind of 
would give you the indication that it had been repaired. But 
over time if you take away the carpet or when you are cleaning 
the home, you can notice little defects.
    Senator Collins. And, similarly, this form also says that 
the house's electrical system is sound, that it is free of any 
material defect. Did you find that to be true? Tell us about 
the sockets and the electrical outlets in your home.
    Ms. Rollins. Well, the whole house, they have two separate 
electrical boxes for the first floor and the second floor. 
Those wires, even though they are housed in two separate 
electrical boxes, they are crossed. So if I am using a large 
appliance on the first floor, like, say, the washer, if you 
turn the microwave on on the second floor--and mind you that it 
has its own electrical box--it will blow the whole house.
    Senator Collins. And it is my understanding that one of the 
light sockets actually shoots sparks.
    Ms. Rollins. Yes. In the basement, we have four light 
fixtures. Out of the four, only two are operable because they 
can't--the one system will overload if all the lights are on in 
the basement.
    Senator Collins. Now, the seller also claimed that the 
plumbing system in your house was free of material defects, and 
yet I understand you had a lot of plumbing problems as well. 
Could you tell us about those?
    Ms. Rollins. Yes. The toilet on the first floor overflows. 
The toilet on the second floor overflows just by itself. It 
flushes by itself. The toilet on the second floor has fallen 
into the first-floor master bedroom on three occasions.
    I had called out a company to have them go into the crawl 
space to look at the stack. I thought that that may be causing 
the water to rise, like debris was in there. The gentleman did 
come out to the home, and what he told me was that he could not 
repair the stack because there was cement in the stack and it 
had solidified, and he could not break it up to get into the 
system. So it is permanently like that.
    Senator Collins. I want to state for the record that the 
Subcommittee staff attempted to interview the individual who 
signed this document and who sold you the home, and he asserted 
his Fifth Amendment rights and refused to answer any 
questions.\1\
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    \1\ See Exhibit No. 1 which appears in the Appendix on page 115.
---------------------------------------------------------------------------
    Let me ask you just a couple more questions, and then we 
will move on to our next panel.
    I would like to ask you a question about part of your 
mortgage application, the section depicting the monthly income 
and combined housing expense information.\2\ Now, this shows 
that you receive $618 a month in rental income, and that was 
used to qualify you and your mother for the mortgage so that 
you would meet the income levels. And the reason why there are 
income levels is to make sure you can afford to pay for the 
mortgage.
---------------------------------------------------------------------------
    \2\ See Exhibit No. 3.c. which appears in the Appendix on page 175.
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    Do you, in fact, receive $618 in rental income every month?
    Ms. Rollins. No.
    Senator Collins. Did you put that number on that form?
    Ms. Rollins. No.
    Senator Collins. Did you tell anyone to put that number on 
that form?
    Ms. Rollins. No.
    Senator Collins. And you weren't even aware that that 
number had been put on the form to make it appear that you 
qualified for the mortgage?
    Ms. Rollins. No.
    Senator Collins. Thank you. So this is an example where 
there was falsification or doctoring of some of your financial 
data to make it look like you could qualify for this mortgage. 
Is that an accurate statement?
    Ms. Rollins. Yes.
    Senator Collins. OK. I do want to thank you all for coming 
forward with your stories today. As I said, it is absolutely 
wrong what has happened to you, and I know I speak for Senator 
Durbin and myself, that we are absolutely committed to putting 
in place protections that will ensure that this does not happen 
to others. There clearly needs to be a crackdown on the 
unscrupulous real estate agents, appraisers, and lenders who 
are involved in this. HUD needs to do a much better job to 
ensure that other homeowners don't go through this.
    Each of you is a first-time homebuyer, and in virtually 
every case of the victims we interviewed, that was the case. So 
the people who are being exploited are the very people that 
these Federal housing programs are designed to help. We are 
determined to put a stop to this, and I can't thank you enough 
for being willing to come forward and tell your stories. Thank 
you so much.
    Ms. Smith. You are welcome.
    Ms. Rollins. Thank you.
    Ms. Pratts. Thank you.
    Senator Collins. You are excused now.
    Our final witness today is Stanley Czerwinski, who is the 
Associate Director of the General Accounting Office's Division 
of Resources, Community, and Economic Development. In response 
to a joint request from Congressman Rick Lazio and myself, GAO 
conducted an investigation of the Department of Housing and 
Urban Development's supervision of FHA lenders. Today GAO will 
release its report entitled ``Single-Family Housing: Stronger 
Oversight of FHA Lenders Could Reduce HUD's Insurance Risk.'' 
\1\
---------------------------------------------------------------------------
    \1\ See Exhibit No. 7 which appears in the Appendix on page 182.
---------------------------------------------------------------------------
    I am going to ask Mr. Czerwinski to introduce the two 
gentlemen who are accompanying him today, but before you get 
comfortable, if you will please stand so that I can swear in 
pursuant to Rule 6. Would you raise your right hand? Do you 
swear that the testimony you are about to give to the 
Subcommittee will be the truth, the whole truth, and nothing 
but the truth, so help you, God?
    Mr. Czerwinski. I do.
    Senator Collins. I know you are familiar with the lighting 
system, and so, Mr. Czerwinski, I will ask you to introduce the 
two gentlemen with you and proceed with your statement.

  TESTIMONY OF STANLEY J. CZERWINSKI,\2\ ASSOCIATE DIRECTOR, 
HOUSING AND COMMUNITY DEVELOPMENT ISSUES, RESOURCES, COMMUNITY, 
  AND ECONOMIC DEVELOPMENT DIVISION, U.S. GENERAL ACCOUNTING 
 OFFICE, ACCOMPANIED BY ROBERT PROCACCINI, ASSISTANT DIRECTOR 
    FOR FHA INSURANCE PROGRAMS, AND PAUL SCHMIDT, ASSISTANT 
          DIRECTOR FOR SINGLE-FAMILY HOUSING PROGRAMS

    Mr. Czerwinski. Thank you, Madam Chairman. To my left is 
Paul Schmidt. Paul is our Assistant Director for Single-Family 
Housing Programs. And to my right is Bob Procaccini. Bob is our 
Assistant Director for FHA Insurance Programs.
---------------------------------------------------------------------------
    \2\ The prepared statement of Mr. Czerwinski appears in the 
Appendix on page 87.
---------------------------------------------------------------------------
    Senator Collins. Thank you.
    Mr. Czerwinski. Madam Chairman, I would like to thank you 
for holding this hearing. As you know, GAO tries very hard to 
put a human face on the issues that we cover, and we couldn't 
have done it anywhere near as well as you have just done with 
this past panel. The stories that you have seen illustrate the 
kinds of issues that we uncovered during our review. And as you 
know, this review was undertaken at your request, and the 
report was released earlier this week.\1\
    Our report evaluates HUD's oversight of FHA mortgages, and 
is aimed at avoiding the kind of things that we saw today. HUD 
has three oversight components, and I would like to give a 
brief description of these after I talk a little bit about FHA. 
The three components are:
    Approval of FHA lenders. Approval is designed to only let 
good lenders in the program.
    Second is monitoring, and monitoring is designed to make 
sure those lenders that you let in the program do a good job.
    The final step is enforcement, and that is designed to take 
action against those lenders that don't do a good job.
    Before I go into these three steps in more detail, I would 
like to take a step back and talk a little bit about FHA.
    FHA is the principal provider of Federal mortgage 
insurance. More importantly, it is the major lending source for 
first-time, low-income, and minority homebuyers.
    For example, one-quarter to one-third of all low-income and 
minority homebuyers got their homes through FHA insurance, and 
three-quarters of FHA's portfolio is devoted to first-time 
homebuyers.
    FHA relies on about 10,000 lenders to carry out its 
mission. About 2,900 of these lenders are granted what is 
called direct endorsement authority. That means these lenders 
can gather and process the information, underwrite loans, make 
eligibility determinations, and they do this with no prior 
review from HUD. The remainder of the lenders are called loan 
originators. Loan originators can gather such information as 
mortgage applications, employment verification, credit 
histories, but then they must go to one of the 2,900 approved 
lenders for underwriting and eligibility determinations.
    Given HUD's reliance on private lenders, oversight is 
essential. Such oversight is the primary responsibility of four 
homeownership centers that HUD has in Atlanta, Denver, 
Philadelphia, and Santa Ana. Our team visited all four 
homeownership centers, and we found problems in the three areas 
I just mentioned: Approval, monitoring, and enforcement.
    The major problem with approval is consistency. When 
lenders apply for FHA approval, they go through a probationary 
period. During that period, FHA evaluates their performance. 
HUD guidance requires that lenders must have ``acceptable'' 
performance to be approved, but the guidance does not specify 
what acceptable is. Given such general criteria, it is not 
surprising that the four centers we visited apply the standards 
differently.
    For example, during our review, 36 lenders applied for FHA 
approval. Some of these lenders had no significant problems at 
all during their probationary period; however, others had as 
much as 40 percent of the loans they made while on probation 
with serious problems. All 36 lenders, those with no 
significant problems and those with up to 40 percent, were 
approved because their performance was deemed acceptable.
    Once lenders are in the program, the key then becomes to 
monitor their performance. HUD monitors their performance in 
two ways: It conducts on-site reviews of lenders' operations; 
it also has desk reviews of the paperwork associated with each 
loan. HUD guidance requires that both of these types of reviews 
be targeted to high-risk lenders and loans. However, we found 
that HUD did not target reviews to these high-risk lenders and 
loans.
    For example, of the four homeownership centers, only 
Philadelphia developed a list of high-risk lenders to 
prioritize the reviews, and even in Philadelphia, they only 
covered about 20 percent of the number of high-risk loans that 
they were supposed to cover.
    As I mentioned, enforcement is the third step of the 
oversight process, and enforcement has essentially three 
components: The first is the homeownership centers may suspend 
lenders for poor performance; the second is lenders may be 
referred to HUD's Mortgagee Review Board for such actions as 
indemnification, termination, or fines and penalties; the final 
step of the enforcement process is Credit Watch, and I would 
like to spend a moment or two on Credit Watch because it really 
is the crown jewel of HUD's attempts to enforce its actions.
    Credit Watch works according to automatic sanctions that 
are applied to lenders based on their default rates and claim 
rates. However, we found two problems with Credit Watch.
    First of all, Credit Watch only holds accountable those 
lenders who originate loans. When the same lender originates 
and underwrites a loan, this isn't a problem. However, when one 
lender originates a loan and then must go to an underwriter, in 
that case the underwriter gets a free ride under Credit Watch.
    The second problem is that lenders have successfully 
challenged in court HUD's authority to impose Credit Watch. 
Yesterday Senator Sarbanes and Senator Mikulski said they were 
introducing legislation that would remedy this problem.
    We support clarifying HUD's authority regarding Credit 
Watch. We also recommend that Credit Watch be extended to all 
lenders within FHA. Our report also contains a number of 
recommendations aimed at improving the approval, the 
monitoring, and the enforcement functions that HUD has. I am 
happy to say that HUD agrees with the recommendations we are 
making, and they have told us that they promise to take action. 
I know HUD will be up here tomorrow, so you can follow up on 
that, I am sure.
    That concludes my statement. I am glad to answer any 
questions that you or Senator Durbin may have.
    Senator Collins. Thank you, Mr. Czerwinski. I thought your 
report was very well done, and I appreciated the efforts that 
GAO has made in this regard.
    Your testimony, as well as the report that was dated April 
and released earlier this week, outlines a number of weaknesses 
in HUD's system for lender approval, monitoring, and 
enforcement that pose risks for the first-time homebuyers that 
we have heard from today and also for the insurance fund. But 
this wasn't the first government report to cite problems. It is 
my understanding GAO has done previous reports, and the Office 
of Inspector General at HUD has repeatedly issued audits and 
reports indicating that these programs were at significant risk 
for fraud.
    For example, way back in 1993, 7 years ago, HUD's Office of 
Inspector General completed an audit of FHA's single-family 
program and found that HUD's post-endorsement reviews did not 
consistently ensure quality underwriting. Based on your more 
recent work, is this still a problem?
    Mr. Czerwinski. That is absolutely correct.
    Senator Collins. In addition, back in 1993, the Office of 
Inspector General found that HUD was not effectively using 
sanctions to protect the integrity of the program. Sounds like 
you found the same thing.
    Mr. Czerwinski. Yes, Madam Chair.
    Senator Collins. The same report back in 1993 found that 
the direct endorsement underwriter approval process was not 
effective. That is again what we heard today, is it not?
    Mr. Czerwinski. That is exactly right.
    Senator Collins. So it appears that the IG identified 
essentially the same kind of problems that you found in your 
review 7 years ago.
    Mr. Czerwinski. That is correct.
    Senator Collins. And it wasn't just back in 1993. It isn't 
as if there was a report in 1993 and nothing happened for 7 
years. It is my understanding that GAO did some work in 1997 
that looked at the appraisal process, and we have heard a lot 
about faulty appraisals today. Could you tell us a little bit 
about the report done in 1997?
    Mr. Czerwinski. Yes, Madam Chair. When you look at the 
lending process, the two key players are lenders and 
appraisers. And the one thing that they have in common is that 
in both cases HUD has to rely on these agents to carry out the 
program. In both cases, the agent sometimes may have different 
incentives than HUD, or the American taxpayer, or the borrower, 
and that is why oversight is very important. In both cases, 
because you want to put in incentives to make those agents 
behave along the same lines that you would like them to.
    So, just like our report on lender oversight, which talks 
about approving, monitoring, and enforcing, the same issues of 
approving appraisers, making sure the appraisers do a good job, 
and then taking action is valid also.
    Senator Collins. And then in 1999, it is my understanding, 
2 years later, GAO issued yet another report entitled ``Single-
Family Housing: Weaknesses in HUD's Oversight of the FHA 
Appraisal Process.'' And I want to read some of the findings.
    GAO found that HUD is not doing a good job monitoring the 
performance of appraisers; HUD is not holding appraisers 
accountable for the quality of their appraisals; HUD has 
limited assurances that the appraisers on its roster are 
knowledgeable.
    Is that an accurate summary?
    Mr. Czerwinski. Absolutely, Senator.
    Senator Collins. So, once again, we see a pattern of 
reports and audits over a 7-year period, time and time again, 
making the exact same criticisms of HUD's programs. Is that 
accurate?
    Mr. Czerwinski. Yes, Senator, and it points out the 
importance of approving, monitoring, and enforcing what you 
want your agents to be doing.
    Senator Collins. I would now like to go to your most recent 
report and ask you a few questions to highlight some of the 
findings. Now, it is my understanding that FHA relies almost 
exclusively on direct endorsement lenders to underwrite the 
mortgages that it ensures. Is that accurate?
    Mr. Czerwinski. That is correct.
    Senator Collins. And you talked about that HUD has 
inconsistent standards for approval of lenders who apply for 
direct endorsement authority. And as a result, some lenders 
with very questionable proficiency were approved. In fact, you 
said that even lenders who were found to have 40 percent of 
their mortgages they submitted had problems with them, some of 
them rated poor, received approval nonetheless. Is that right?
    Mr. Czerwinski. That is correct.
    Senator Collins. So nobody was turned down?
    Mr. Czerwinski. Not during the period of our review.
    Senator Collins. That you looked at.
    Mr. Czerwinski. We looked at 36. All 36 were approved.
    Senator Collins. All 36 were approved despite the fact that 
there were significant deficiencies in the mortgages that were 
submitted for review by some of the lenders.
    Mr. Czerwinski. That is correct.
    Senator Collins. It sounds like a pretty automatic system 
to me, if you can still get approved when you have significant 
deficiencies.
    Could you provide us with an example of a direct 
endorsement lender that HUD approved with questionable 
proficiency?
    Mr. Czerwinski. Well, I think the key issue, first of all, 
is that the standards are very general, and, therefore, the 
application of the standards can lead to inconsistency. As the 
chart to your left shows, for the four offices that we went to, 
the number of problems that were encountered by the lenders 
applying for approval. As you can see, it is all over the 
board; that is inconsistent.\1\
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    \1\ See Exhibit No. 8 which appears in the Appendix on page 227.
---------------------------------------------------------------------------
    Senator Collins. Now, I want to make sure again that I 
understand that process. It is my understanding that when HUD 
looks at the mortgages that are submitted as part of an 
application for direct endorsement authority, they rate the 
quality and that there is a classification of, what, good, 
fair, and poor. Is that correct?
    Mr. Czerwinski. That is absolutely right.
    Senator Collins. And you looked at 36 of those. Did you 
find that HUD actually granted direct endorsement authority to 
12 lenders who had earned, if that is the right word, a rating 
of poor?
    Mr. Czerwinski. On some of their loans, yes.
    Senator Collins. On some of the loans that were submitted. 
And were these errors significant errors? In order to get a 
poor rating, can you give us an idea of the kinds of errors 
that would be made?
    Mr. Czerwinski. Yes, they were significant errors.
    Mr. Schmidt. I can probably do the best job giving you 
examples of that.
    Senator Collins. That would be helpful, Mr. Schmidt.
    Mr. Schmidt. What we found--and this kind of probably goes 
across the three that had the 40 percent of their loans in poor 
condition--was a failure to verify income and employment----
    Senator Collins. A pretty basic requirement.
    Mr. Schmidt. Pretty basic requirement. Failure to ensure 
that the borrower had enough income to make the payments.
    Senator Collins. Critical, and we have heard what happens 
when the homeowner can't afford it.
    Mr. Schmidt. Failure to explain delinquencies on credit 
card debt or a collection on credit card debt, and also failure 
to properly calculate the debts and liabilities the borrower 
had, which are all fairly basic types of issues.
    Senator Collins. So these lenders which showed that they 
did not have the capacity to underwrite these mortgages 
correctly were approved nevertheless. That is accurate?
    Mr. Schmidt. Correct.
    Senator Collins. And your review of these cases was just 
last year. Is that correct?
    Mr. Schmidt. Correct.
    Senator Collins. So this isn't ancient history. Mr. 
Czerwinski, you mentioned that of the four HUD centers that you 
looked at, only the Philadelphia center suspended the direct 
endorsement authority of any lenders during the period that you 
looked at, during 1999. Yet I believe it is accurate to say 
that you identified more than 200 lenders nationwide that had 
poor ratings as a result of the monitoring that HUD is doing. 
Could you talk about that issue?
    Mr. Czerwinski. That is exactly correct, Senator. When a 
lender is suspended, the homeownership center then has to go 
through the process of reviewing every single loan that that 
lender makes as a lender tries to get its position reinstated. 
That is a large workload effort for the staff at each of the 
homeownership centers.
    Senator Collins. So it is part of the dynamic here that if 
a homeownership center suspends the lender, takes away the 
direct lending authority, they are going to have to do the 
work?
    Mr. Czerwinski. That is correct.
    Senator Collins. And that discourages them from pulling 
back the authority?
    Mr. Czerwinski. We talked to the staff at the centers, and 
they said that the workload was certainly a factor that they 
considered.
    Senator Collins. Of those 200 lenders that you identified, 
how many of them were actively writing FHA mortgages? I am 
talking about the lenders that received the poor ratings as a 
result of the reviews.
    Mr. Czerwinski. All of them were.
    Senator Collins. Senator Durbin.
    Senator Durbin. Thank you very much. We are going to have 
testimony, are we not, Madam Chair, from Secretary Cuomo 
tomorrow?
    Senator Collins. He has declined our invitation to come and 
instead is sending a deputy, Mr. Apgar.
    Senator Durbin. To speak on behalf of FHA?
    Senator Collins. On behalf of the Department.
    Senator Durbin. In the course of the investigation here, 
did you hear from HUD that there was any budgetary reason 
driving this lack of scrutiny and surveillance?
    Mr. Czerwinski. The way we do our work: We go out and find 
what the agency is doing; then we go back to the agency and 
verify what we found; we ask them why they think some of these 
things are happening. One of the reasons that we were given by 
homeownership center staff was resources, in terms of travel to 
go out and visit lenders--to do the inspections.
    Senator Durbin. Did you follow through on that? Was that 
something that made sense?
    Mr. Czerwinski. It makes sense.
    Senator Durbin. But did they not change the configuration 
of the groups that were reviewing lenders to these regional 
centers from, I guess, 10 or 12 offices to four regional 
centers?
    Mr. Czerwinski. That is exactly right.
    Senator Durbin. And what year did that happen?
    Mr. Czerwinski. That happened in 1997 or 1998.
    Senator Durbin. Did you take a look at the HUD efforts 
before and after this regional service center approach to 
compare their activities?
    Mr. Czerwinski. Some of our earlier work looked at HUD 
prior to the reorganization, so we did have that type of 
comparison.
    In terms of the reorganization that created the four 
homeownership centers, I think it is a good news/bad news 
answer. The good news is that HUD is putting more resources in 
terms of staff for overseeing lenders--their allocations are 
higher. The bad news is that many of these staff haven't been 
doing this work before, so that one of the reasons HUD told us 
why they hadn't targeted as many of the high-risk lenders is 
that they felt their staff hadn't gotten up to speed enough to 
deal with these more difficult cases.
    Senator Durbin. I also read somewhere that the number of 
employees involved in this review and surveillance, when HUD 
went to the regional centers, was cut substantially. Is that 
true?
    Mr. Czerwinski. The overall number of employees that HUD 
has put into the homeownership centers has been reduced. 
However, HUD has put in more resources to look at lenders. The 
number of lender reviews is up.
    HUD does their reviews in two ways: One, they have HUD 
staff do them; and the second is that they rely on contractors.
    Senator Durbin. I want to make sure the record is clear. 
Before the reorganization, before the creation of the regional 
service centers, if you compared the number of FTEs or 
employees involved in surveillance of these lenders before and 
after, can you tell me the comparable numbers that were 
involved?
    Mr. Czerwinski. We don't have the precise overall numbers. 
I can provide those for the record if you would like.
    Senator Durbin. I read somewhere, and I can't find it as I 
sit here, but I read somewhere that the number of employees 
involved in surveillance or review was cut in half when they 
went into this reorganization. Does that sound right to you?
    Mr. Czerwinski. Yes. There are a number of aspects of 
surveillance, not just monitoring of FHA 203(b) lenders, and I 
think that you are picking up that overall number. Mr. Apgar, 
who is the FHA Commissioner, is going to be here tomorrow, and 
he should be able to give you the precise overall numbers. I 
can also get them for the record.
    Senator Durbin. I wonder--and we will find out tomorrow--
how much of this was driven by congressional appropriations and 
how much was driven by a HUD decision. If HUD decided to step 
back from its responsibility, then, of course, they have some 
hard questions to answer. Do you know whether or not there was 
congressional input into this reorganization?
    Mr. Czerwinski. We have looked at HUD's reorganization. It 
is called their ``20/20 Reform Plan.'' In many respects, the 
reorganization is the Secretary's response to his analysis of 
what the Department needed to do. Obviously one factor in the 
input would be what reviews were conducted by us and what kind 
of oversight was conducted by the Congress and others.
    I don't recall anybody saying that we should give less 
scrutiny to oversight of lenders such as FHA, and as a matter 
of fact, GAO is on the record of talking about more needs in 
that area.
    Senator Durbin. I see in your report here that you noted 
that HUD's single-family housing staff was cut by more than 50 
percent under the 20/20 plan.
    Mr. Czerwinski. Yes. That is the overall staffing.
    Senator Durbin. Well, I think that will be an interesting 
thing. Of course, if this is HUD's decision that they don't 
need review and surveillance, that is one thing. If Congress 
said we won't give you the money for review and surveillance, 
then it kind of creates another challenge for us to look and 
see where responsibility might lie.
    And then do I take it from your testimony that since there 
have been abuses, HUD has now responded with more people 
involved in this?
    Mr. Czerwinski. HUD has said that they agree with our 
findings and recommendations and has talked about planned 
initiatives. We haven't seen any resource allocations according 
to how that would be done.
    Senator Durbin. One of the groups or companies, rather, 
that was involved in the earlier testimony, this Easy Life, if 
I remember correctly had been found guilty of prior wrongdoing, 
and they still continued on the FHA approved list.
    Address that for a moment, if you will. Do you think HUD 
met its responsibility when a lender that has been involved or 
a realtor that has been involved in wrongdoing, paid a fine, 
for example, for this wrongdoing, and continues its wrongful 
practices? Were you able to address that in your investigation?
    Mr. Czerwinski. We did not specifically look at Easy Life. 
But, obviously we found some gaps in the system in which 
lenders are approved, monitored, and then enforcement action is 
taken.
    Senator Durbin. Now, one of the things that we have found 
in this Subcommittee when Chairman Collins has called previous 
hearings is that once you nail down a wrongdoer, they have a 
tendency to disappear and reappear in a different form with a 
different name--the same people, the same problems, coming at 
it with a new application.
    Have you found evidence of that in this particular problem?
    Mr. Czerwinski. We did not look at that particular aspect, 
but I would go back to the point that I was making about 
approval, because that really becomes an approval issue. If the 
lender comes back in a different incarnation, the question is: 
What criteria are used to reapprove or approve that lender? And 
then how are those criteria applied?
    The point that I was making is that the approval process 
has very general criteria which allows for inconsistencies.
    Senator Durbin. One of the questions that I asked during 
the brief break before your panel was started was of an 
attorney from Chicago who is representing some 200 homebuyers 
who were victimized by this Easy Life operation. And I asked 
her: Well, what response have you received from the Illinois 
Association of Realtors in terms of these folks that have been 
involved in this? And I don't want to put words in her mouth, 
but she wasn't very encouraging. They haven't really received 
any kind of response.
    Did you monitor any efforts beyond HUD and FHA by 
professional organizations, whether it is a realtors' 
organization or the banking industry in a given State or 
locality, to take action against those who have been found 
guilty of wrongdoing through this program?
    Mr. Czerwinski. That was not a course that we followed. 
What we did do, however, was to look at others who are in 
similar roles to HUD, specifically the GSEs. We asked how they 
did their oversight, and then had that as a comparison.
    Senator Durbin. And tell me what you found to be best 
practices in this area. What did you find that we could use as 
an example to clean up this situation?
    Mr. Czerwinski. We saw a difference in terms of monitoring, 
and HUD in that case has the right idea about targeting high-
risk lenders. However, in terms of implementation, we found the 
other parties to be further along than HUD in terms of how they 
went about targeting. That was probably the major point; that 
if we could get HUD to improve its risk-based analysis, that 
would help.
    Senator Durbin. And that improvement, would it involve more 
technology, more personnel, both? Tell me what you mean by 
that.
    Mr. Czerwinski. I think probably the major place that HUD 
could make an improvement in this area is in the information 
that it has and the way that it uses it. HUD's data systems 
currently are not quite so facile at identifying the risk 
factors. If the information systems could readily pop out the 
risk factors such as defaults, volume, when the last reviews 
were undertaken, this would help target the monitoring better.
    Senator Durbin. I am going to close at this point. I think 
that Senator Collins made a good point with one of our earlier 
witnesses. When they hear ``government-insured,'' it gives them 
great peace of mind that this great government of theirs is 
going to stand behind them, and then they find out by bitter 
experience that it isn't worth much. In fact, they have been 
misled not only by the people on the street, the realtors and 
the lenders, but they have been misled by this label that 
suggests some approval of a process that, frankly, never should 
have been approved. That falls back on our shoulders. Those of 
us in government have a responsibility to make sure we do our 
part of the job. It isn't just a ``buyer beware'' culture. And 
these new homebuyers, with the dream of doing something that 
most of us look forward to and appreciate as a great moment in 
our lives, deserve better. They deserve better from HUD, from 
Congress, and I hope that this hearing will lead us to follow 
some of your recommendations. Thank you for your investigation.
    Thanks, Madam Chair.
    Senator Collins. Thank you, Senator Durbin. Mr. Czerwinski, 
just a couple more questions. Isn't a major part of the problem 
that HUD's approval system is so flawed that mortgage companies 
with poor records are getting certified in the first place? 
Isn't that a likely predictor of problems down the road, if 
they are making the kinds of basic mistakes that Mr. Schmidt 
described, aren't they likely to end up as high-risk lenders 
that are going to create the kinds of problems we have explored 
this morning?
    Mr. Czerwinski. I think you are absolutely right. When we 
talk about oversight, probably the most important part of 
oversight is stopping the problems before they come in the 
door.
    Senator Collins. Exactly. We have got to stop these lenders 
from being certified in the first place, and it is 
inconceivable to me that HUD is certifying lenders that don't 
pass their own test, that submit applications that are so 
flawed that HUD itself rates them as poor and then turns around 
and gives them direct endorsement authority. I just am at a 
loss to understand why that is happening.
    Mr. Czerwinski. The answer is that the criteria for what is 
an acceptable application are so vague that it leaves it open 
to interpretation. So the key in our minds would be to specify 
exactly what HUD means by ``acceptable'' in terms of the number 
of loans that have significant or serious problems.
    Senator Collins. But HUD is deeming acceptable and, thus, 
giving direct endorsement authority to lenders that HUD itself 
rated as poor. Is that correct?
    Mr. Czerwinski. That is correct.
    Senator Collins. That just is inconceivable to me.
    The final question I want to ask you, Mr. Czerwinski, is to 
respond to a point that Mr. Apgar, who will be testifying 
before us tomorrow, made about the economic value of the 
insurance fund. In your report, you gave HUD, appropriately, a 
chance to respond to your criticism, and Mr. Apgar pointed out 
that the economic value of the fund stands at an all-time 
record high.
    Could you tell us why that may be, whether it is really due 
to HUD's actions or is it due to other factors? And could you 
also comment on the impact of the dramatic increase in the 
number of HUD properties that have been foreclosed upon on the 
value of the fund?
    Mr. Czerwinski. Sure. There are probably three factors that 
drive the value of the fund, and I would probably put them in 
this order: The first is the overall economy. The economy is 
very strong. This has driven housing prices up, interest rates 
down. That has helped FHA immensely.
    The second are changes structurally that the Congress has 
made to FHA in terms of the premiums. Back about 10 years ago, 
FHA's picture was not anywhere near as rosy as it is today, and 
the Congress, working with HUD, decided that it had to raise 
insurance premiums. Those premiums have been raised. More money 
has been coming into the fund.
    The third part is HUD's management of the fund.
    Those are the three factors. I would put them in that 
order.
    Mr. Procaccini. If I could add to Mr. Czerwinski's answer, 
Madam Chair?
    Senator Collins. Yes.
    Mr. Procaccini. To give an example of the impact of the 
economy on this fund, one needs to just look at the latest 
actuarial study report, and in that report it talks about what 
would happen if the fund--if economic conditions that prevailed 
over the next 30 years were less optimistic, less positive than 
what was deemed to be the baseline case this year, and by using 
lower economic predictors, the fund, it was estimated by 
Deloitte Touche to be worth about $12.3 billion. So that is 
about 26 percent less than their baseline case. So that is 
about $4.3 billion less the fund would be worth if these 
economic conditions were not as optimistic. So that gives you a 
demonstration of the economic impact of the economy on the 
reserves of this fund.
    Senator Collins. That is a very important point. So I think 
what you are telling me is that it has been the combination of 
economic prosperity plus the increase in premiums assessed to 
the homebuyers that has been responsible, that have combined to 
increase the value of the fund and helped to offset the 
increase in foreclosures. Is that an accurate statement?
    Mr. Czerwinski. Those are major factors.
    Senator Collins. And it is important for us to keep in mind 
that if the premiums have to be increased in order to offset--
keep the fund healthy and in order to offset the cost of 
foreclosures, that that cost is being passed right back to the 
homebuyers. Is that accurate?
    Mr. Czerwinski. That is correct, and the homebuyers are 
typically low-income, minority, first-time homebuyers who are 
bearing this cost.
    Senator Collins. Thank you very much for your testimony. It 
has been very helpful. I again want to commend you for the 
thoroughness and the high quality of your report. It is always 
a pleasure to work with GAO, and we very much appreciate your 
contributions in this area.
    Thank you very much.
    Mr. Czerwinski. Thank you, Madam Chair.
    Senator Collins. Before we recess today, I want to just 
once again thank all of our witnesses, but particularly the 
three women who testified so eloquently about their 
experiences. We very much appreciate your coming forward. I 
know it was a very difficult thing to do, but you added 
immensely by putting the human face on this problem. We do talk 
about statistics all day long here, but when we hear the 
personal stories of people affected by fraudulent schemes like 
this, that is when it really hits home. So I want to thank all 
of our witnesses today.
    We will resume the hearing tomorrow. Based on the testimony 
we have heard today, I am convinced that flipping is an 
extremely serious and growing national problem and that we need 
to take much tougher action. I am also convinced that HUD has 
not done an effective job in overseeing the lenders and the 
other players involved as it stands behind these mortgages with 
the insurance fund.
    I look forward to hearing HUD's explanation tomorrow and to 
questioning HUD's Assistant Secretary for Housing, as well as 
the inspector general for HUD.
    With that, this Subcommittee will stand in recess until 
tomorrow morning at 9:30. Thank you very much.
    [Whereupon, at 12:08 p.m., the Subcommittee was adjourned.]

      HUD'S GOVERNMENT INSURED MORTGAGES: THE PROBLEM OF PROPERTY 
                              ``FLIPPING''

                              ----------                              

                         FRIDAY, JUNE 30, 2000

                                       U.S. Senate,
                Permanent Subcommittee on Investigations,  
                  of the Committee on Governmental Affairs,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 11:05 a.m., in 
room SD-342, Dirksen Senate Office Building, Hon. Susan M. 
Collins presiding.
    Present: Senators Collins and Durbin.
    Staff Present: K. Lee Blalack, II, Chief Counsel and Staff 
Director; Mary D. Robertson, Chief Clerk; Rena M. Johnson, 
Deputy Chief Counsel; Karina Lynch, Counsel; Brian Jones, 
Investigator; Claire Barnard, Detailee/HHS-IG; Jim Pittrizzi, 
Detailee/GAO; Raymond Kessenich, Detailee/NCIS; Bob Groves, 
Detailee/HUD-OIG; Elizabeth Hays, Executive Assistant; Adam 
Thomas, Intern; Christopher Kramer, Intern; Steve Abbott 
(Senator Collins); Marianne Upton and Jessica Porras (Senator 
Durbin); and Glen Sauer (Senator Akaka).

              OPENING STATEMENT OF SENATOR COLLINS

    Senator Collins. The Subcommittee will come to order. I 
first want to apologize to our witnesses this morning and to 
others, who are here today for the hearing, for the delay in 
convening. We had an additional two votes that I was not 
counting on when we changed the time of the hearing last night. 
So I apologize for any inconvenience that the late start may 
have caused.
    This morning the Permanent Subcommittee on Investigations 
continues its examination of property flipping. As we learned 
at our hearing yesterday, flipping is a growing type of 
mortgage fraud that has devastated families and neighborhoods 
across this Nation. In a typical flipping transaction, a con 
artist purchases a rundown house in a low-income neighborhood. 
The seller then makes minor cosmetic repairs to the property 
and then attempts to unload the house on an unsuspecting buyer 
at a grossly inflated price. These properties are usually 
resold at tremendous markups, often 100 percent or more within 
a few months or even days.
    Flippers usually target first time, low-income home buyers 
who are eager to own their own home and are willing to trust 
sellers who promise them the American dream of homeownership. 
Our investigation found that these unsophisticated buyers are 
generally unfamiliar with real estate transactions. They are 
essentially at the mercy of unscrupulous sellers who are often 
aided and abetted by unethical appraisers and lenders.
    Once they have hooked the unsuspecting buyers, the sellers 
make arrangements to secure an FHA-backed mortgage loan to 
finance the transaction. In some cases, if a buyer's credit 
history or financial condition would scuttle the deal, 
fraudulent mortgage applications and phony gift letters are 
crafted to grease the transaction. The combination of inflated 
property prices, expensive repairs, and adjustable rate 
mortgages often leave the buyers with mortgage payments and 
other costs that they simply cannot afford.
    Contrary to the explicit assurances of the sellers, the 
properties are frequently in such poor condition that the 
buyers must sink even more money into their homes just to 
render them habitable. The result is sadly predictable. The 
sellers escape with obscene profits and the buyers default on 
their mortgages. The ultimate result is often foreclosures that 
leave the owners with no home, tarnished credit ratings, and 
broken promises.
    Yesterday we heard truly heart wrenching testimony from 
three first-time home buyers who are victims of flipping 
schemes. They told tragic stories of high hopes that were 
dashed by unscrupulous sellers, appraisers, and real estate 
agents, all of whom were part of intricate scams to sell them 
dilapidated, overvalued houses.
    Our witnesses showed the Subcommittee pictures of what they 
had hoped would be their dream homes, but which instead proved 
to be houses that were crumbling and unsafe. We saw raw sewage 
backed up through a toilet onto the bathroom floor, severe 
termite infestation, rotting wood exteriors through which rats 
entered a roof that almost completely detached from the rest of 
the house, dangerous structural damage and faulty electrical 
systems that repeatedly burned out, placing the occupants at 
risk of a fire.
    The ultimate tragedy is that our witnesses paid these 
exorbitant prices for these atrocious homes and are now saddled 
with mortgages and repairs that they cannot afford. In several 
cases, we found that flipping victims have had no choice but to 
default and file for bankruptcy. I am outraged that these 
hardworking Americans, such as those whom we heard from 
yesterday, have become targets of con men disguised as 
legitimate business people.
    I am particularly disturbed, however, to learn that all of 
the fraudulent loans examined during Subcommittee's 9-month 
investigation were insured by the Federal Government. 
Consequently, after the crooks walked away with handsome 
profits, the Federal Government was left to pick up the tab for 
the fraudulent loans. I look forward to exploring these issues 
further with our witnesses this morning.
    Our first witness this morning is William Apgar, who is the 
Assistant Secretary for Housing at the Department of Housing 
and Urban Development. Mr. Apgar also serves as the Federal 
Housing Commissioner and directs the Federal Housing 
Administration, reporting directly to HUD Secretary Andrew 
Cuomo. I look forward to hearing Mr. Apgar's testimony this 
morning in light of the disturbing testimony that we heard 
yesterday.
    Pursuant to Rule 6, all witnesses who testify before the 
Subcommittee are required to be sworn. So I would ask Mr. Apgar 
to stand and raise his right hand.
    Do you swear that the testimony you are about to give will 
be the truth, the whole truth, and nothing but the truth, so 
help you, God?
    Mr. Apgar. I do.
    Senator Collins. Mr. Apgar, you can proceed with your 
testimony. We do have a lighting system, which I know you are 
familiar with. We would ask you to take about 10 minutes for 
your oral remarks, and we will put your prepared testimony 
fully in the record.

   TESTIMONY OF WILLIAM C. APGAR,\1\ ASSISTANT SECRETARY FOR 
 HOUSING AND FEDERAL HOUSING COMMISSIONER, U.S. DEPARTMENT OF 
                 HOUSING AND URBAN DEVELOPMENT

    Mr. Apgar. Thank you. Good morning, Chairman Collins.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Apgar appears in the Appendix on 
page 97.
---------------------------------------------------------------------------
    Today's hearing focuses on abusive practices aimed at FHA 
borrowers. I understand yesterday that you heard testimony from 
several fraud victims.I share the Subcommittee's concern about 
mortgage fraud of any type, be it in the FHA or in the larger 
mortgage industry.
    This is my top priority at the FHA. That is why I invited 
one of yesterday's witnesses, Mrs. Rollins, to come to my 
office so I could personally thank her for the courage she 
displayed in coming forth and sharing her story with the 
Subcommittee. She was accompanied by her lawyer, Nina Vinik, a 
woman who has worked to seek justice for those families 
victimized in Chicago by the Easy Life Real Estate scam.
    HUD has been involved in Easy Life case for more than 5 
years. In 1996, we referred Easy Life to our inspector general 
for criminal violations. Again, in 1996, we debarred two Easy 
Life Real Estate agents. We also declared a moratorium on Easy 
Life foreclosures in 1998 to give victims a chance to get back 
on their feet.
    But as Ms. Rollins story suggests, there is much more we 
can and must do. Let me tell you what I told Ms. Rollins that 
day in my office. HUD is committed to ridding FHA of the 
problem and to help victims of mortgage scams recover. Over the 
last 3 years, the FHA has initiated a comprehensive approach to 
protect FHA borrowers from predatory lending practice and hold 
its private sector partners accountable for their actions.
    After more than a year of development, last year in May 
1999, we launched Credit Watch, a new performance-based lender 
monitoring and enforcement system. In the first year of 
operation, the FHA has terminated 48 lenders, proposed 
termination of another 10, and placed approximately 135 lenders 
on probationary lending status.
    We have enhanced lender monitoring activities. Over the 
past 3 years, FHA has increased its lender monitoring staff 
more than 7-fold and increased the number of lender monitoring 
reviews from 256 in 1997 to more than 900 in 1999.
    We have stepped up lender enforcement activities. I would 
like to submit for the record the enforcement actions taken in 
just three States, the home States of yesterday's victims.\2\ 
These report hundred of actions we have taken in the last 15 
months alone against real estate agents, against lenders, 
against appraisers who are preying on victims in these 
communities.
---------------------------------------------------------------------------
    \2\ See Exhibit No. 15 which appears in the Appendix on page 296.
---------------------------------------------------------------------------
    Senator Collins. It will be presented in the record.
    Mr. Apgar. Thank you. We have also, over the past 3 years, 
substantially enhanced our appraisal monitoring activities. 
Under the Home Buyer Protection Plan announced in 1998, FHA has 
put in place the most comprehensive and thorough appraisal 
process in the market today. This initiative is now providing 
consumers with an unprecedented amount of information about the 
physical conditions of the homes they are purchasing.
    In addition, we have created a more effective framework to 
hold appraisers accountable for the work. This new approach 
includes mandatory appraiser testing. This was launched in July 
1999. We also now require a more thorough valuation condition 
report. FHA is the only mortgage finance organization in the 
country that requires every appraisal to include completion of 
a four-page form that encompasses comprehensive information 
regarding the physical condition of the property. Again, this 
has been in place now since September.
    Along with the Home Buyer Protection Plan--we provide home 
buyers easy-to-understand information about the important 
issues in their appraisal so that folks will not be so readily 
duped in believing the home is in good repair when it is not. 
FHA is also requiring lenders to provide every borrower the 
summary condition form, and, again, it highlights many of the 
physical conditions that do not meet FHA minimum property 
standards.
    We also developed and are using statistical indicators to 
target poor performing appraisers for extra monitoring 
activity. As part of this initiative, FHA also issued new 
regulations to clarify existing authority to pursue enforcement 
sanctioning against fraudulent and poor performing appraisers. 
This system is working. Just last month, we sent out letters to 
over 40 appraisers notifying them that they were about to be 
terminated or otherwise sanctioned in the FHA programs.
    And, finally, in 1996, Congress authorized and HUD quickly 
moved to implement a comprehensive new program of foreclosure 
avoidance and loss mitigation. After assisting just 5,000 
families in the first year, FHA helped 10,000 borrowers in 1998 
avoid foreclosure, and in 1999, the number flew to 27,000. This 
year, we project 32,000 families will avoid foreclosure because 
of the new loss mitigation tools that are now in effect.
    So we have taken serious measures to combat fraud in our 
programs and to help families arm themselves with the 
information they need to help protect them from abusive 
practices, but clearly the job is not done. One victim is one 
victim too many. That is why we are so pleased to join forces 
with Senator Mikulski and Senator Sarbanes and others to form 
the Baltimore and the national task force on predatory lenders. 
You heard Senator Mikulski yesterday describe these efforts.
    Let me just highlight a few initiatives. The core of the 
Baltimore plan is a series of initiatives to provide relief to 
those FHA borrowers already in distress, especially those who 
have been victimized by predatory lending. Specific initiatives 
include expanded efforts to counsel borrows in default. Again, 
FHA relies heavily on its own network of HUD-funded counseling 
agencies, but there is often not enough. We have expanded the 
counseling effort to put of special focus on pre-foreclosure 
counseling.
    In addition, HUD will move aggressively to force lenders to 
restructure inflated mortgages, that result from fraudulent 
appraisals or the so-called property flips. We will push the 
loan back to the lender and make him responsible for producing 
a loan that the borrower can afford. If not, the FHA will 
intervene directly and make the loan right for the borrower.
    In addition, we are working with local governments and 
community groups to intensity our enforcement efforts in hot 
zones, areas of high default and foreclosure rates. This focus 
on hot zones makes sense. The highest share of FHA foreclosures 
occur in these hot zones. Overall each year, FHA takes back 
through foreclosures only about 1 percent of all loans. We have 
6.7 million loans of the books. This year, we project our 
foreclosures will amount to approximately 67,000 or 1 percent. 
The number has not changed much over the past 10 years, this 1 
percent figure, and today, indeed, the overall foreclosure rate 
is dropping.
    But there will always be someone who will try to scam the 
system. The private mortgage industry today spends millions of 
dollars to rout out fraud, as do we, and we are committed to 
ending abusive practices wherever they occur, and we need your 
help, Senator Collins. As Senator Mikulski noted, we urge you 
and your colleagues to support legislative propositions 
presented in the HUD Treasury Task Force report and in the 
Baltimore task force report.
    As you know, the HUD Treasury report calls for 
comprehensive assault on predatory practice with particular 
focus on growing abuses in the sub-prime market. These 
recommendations closely parallel the legislative proposals 
already introduced by Senators Sarbanes and Schumer here in the 
Senate and Representatives La Falce and Schakowski in the 
House. Congress should work to resolve the remaining 
differences amongst these various proposals and enact 
comprehensive legislation to reform lending practices this 
year.
    We would also urge you to support legislation to protect 
the Credit Watch program from legal challenge. As Senator 
Sarbanes noted when he introduced this legislation, he 
believes, as HUD does, that we already have the authority to 
run Credit Watch, but rather than wait for the courts to rule, 
Congress has the opportunity to clarify and enhance the 
authority so that this important initiative will continued to 
be used to protect FHA borrowers from abusive lenders.
    In conclusion, under the leadership of Secretary Andrew 
Cuomo, HUD has a demonstrated track record of routing out 
waste, fraud, and abuse. Predatory lending is a serious 
problem, and HUD has taken serious actions to hold our business 
partners to high standards of performance. There will always be 
some who attempt to defraud FHA and the millions of families 
who rely on FHA to purchase their first homes.
    For more than 3 years, FHA has aggressively expanded its 
fraud protection tool kit. The results are evident. FHA is in 
the strongest financial shape it has ever been and well 
positioned to meet the future home buying needs of the Nation's 
low and moderate income families. I look forward to answering 
any questions you may have about my testimony. Thank you.
    Senator Collins. Thank you, Mr. Apgar. I have listened very 
closely to your testimony, and I read your full statement when 
we received it late last night, and I believe that Credit Watch 
and the fraud protection plan that you have described are 
potentially very positive innovations.
    I am also pleased to hear that you reached out to Stekeena 
Rollins, who testified before us yesterday. I would encourage 
you to do so with our other witnesses, and we would be happy to 
provide you with the names and addresses of the many other 
victims that we interviewed nationwide as part of this 
investigation.
    But I have to tell you that when I read your press comments 
earlier this week, I have to question whether HUD really 
understands how serious and widespread a problem this is and 
whether HUD is truly committed to solving it. For example, it 
sounds to me like you are continuing to deny the extent of the 
problem when I read in an Associated Press story that: 
``William Apgar, HUD Assistant Secretary for Housing, said 
instances of flipping involving government-insured mortgages 
are isolated; we have isolated examples of fraud.''
    Well, the evidence is overwhelming that flipping is not an 
isolated problem. It is a problem in cities all over the 
country. The Department's Inspector General, who will be 
testifying later this morning, says in her testimony that 
massive property schemes involving FHA-insured mortgages 
continue to be uncovered in New York, Baltimore, Chicago, and 
Los Angeles. In just one case, the IG is investigating, more 
than 1,200 FHA-insured loans totaling over $160 million are 
under investigation.
    Similarly, you quoted Maryland Senator Barbara Mikulski, 
and I share your very high opinion of Senator Mikulski and have 
worked closely with her on this and many other issues. She 
testified yesterday that there were countless properties in 
Baltimore alone that were flipped within 120 days, and she 
described FHA as an accomplice to flippers and predatory 
lenders.
    The Subcommittee's own investigation, likewise, found 
significant evidence of flipping in every single city where we 
looked and did an investigation. We had no trouble finding 
scores of victims in every single city that we went to. Even 
Secretary Cuomo has said that this is a growing problem, and 
that is why the nationwide task force was convened.
    So in the face of this overwhelming evidence, why are you 
continuing to maintain that this is just an isolated problem 
that pops up here and there?
    Mr. Apgar. OK. Let me start with the Secretary Cuomo 
comment. His comments referred to the growing and obviously 
substantial abusive practices in the Nation's sub-prime market, 
the non-government portion. That is the largest share of the 
abusive practices that our task force has uncovered; and in 
Baltimore, for example, over half of the foreclosures and an 
equally large share of any flipping activity were outside of 
FHA or government-backed entirely or where our detail data 
suggests that we are a smaller part of that problem. Important? 
Yes. Significant? Yes. But his comments relate to the national 
task force work almost exclusively on sub-prime activity.
    In terms of the statement about isolated, I understand what 
you are saying in what we call hot zones, and we named several 
of the hot zones in areas of New York, Baltimore, Los Angeles, 
and other places. There is a significant ring of fraud that we 
have identified and are working to rout out.
    The papers that I handed you to show you talk about the 
hundreds of actions we have taken in Chicago, we have taken in 
Florida, we have taken in New York. So I appreciate that.
    But let me just go back in terms of how the FHA program is 
doing overall. We look at our bottom line. We look at our 
overall loss experience, and, again, we anticipate that 1 
percent of our loans this year, of the 6.7 million loans, will 
move into foreclosure. Now that varies by State to State. We 
have a few States which have high, intense loss experience, but 
in your own State, for example, we have only 17,000 loans. 
About 100 of them will go into foreclosure, a foreclosure rate 
of less than .6 percent. Michigan, if Senator Levin was here, 
is about the same as Maine. So many of the large States, many 
of the small States across the board, we see very little 
evidence of any substantial run-up in the kind of foreclosure 
problems that your Subcommittee is focused on.
    Senator Collins. But wait a minute. Flipping does not 
always lead to foreclosure. There are many, many homeowners out 
there who are continuing to struggle and make those mortgage 
payments who are still victims of property flipping scams. We 
heard from one yesterday.
    Mr. Apgar. Right.
    Senator Collins. Mrs. Pratts is still making her payments.
    Mr. Apgar. Yes. When people have faced the combination of a 
poor home condition and a high price, that puts a lot of 
pressure on them. Some owners hang on as best they can. Many of 
them move into foreclosure, but, again, we are not aware of any 
information that provides any extent of this. We look through 
our own files, and we can identify--where we identify examples 
of a fraudulent appraiser, and that is why we are bringing 
action against some of the appraisers across the country.
    Senator Collins. So are you standing behind your press 
statement that this is just an isolated problem and it is no 
big deal, essentially?
    Mr. Apgar. No. I never said it was not a big deal.
    Senator Collins. You said it was isolated, that it was just 
isolated examples.
    Mr. Apgar. Right, the flipping problem is isolated to these 
hot zone areas.
    Senator Collins. How can something that is occurring in 
cities all over the country be called an isolated problem?
    Mr. Apgar. Well, like I said, it is an intense problem in 
the cities that you mentioned. It is not a particularly 
substantial problem in other places, but I do expect with 6.7 
million homes on the market that you could go back and find 
examples of abusive practices across the board, one here, one 
there, but the concentration and the ring of this kind of 
fraudulent behavior is what we are working hard to crack.
    Senator Collins. Well, I have to say that your answer just 
heightens my concerns. If you do not concede that this is a 
widespread problem that is causing a lot of trouble for 
thousands of home buyers across the Nation, then I really 
question whether HUD is committed to solving the problem. If 
you do not admit the extent of the problem----
    Mr. Apgar. I am saying look at our actions, please. We have 
worked hard for 3 years to put aggressive programs in place. We 
have taken aggressive enforcement actions. We have developed 
new systems and new procedures and that evidences the fact that 
we take it very seriously. As I said in my statement, one 
victim is one too many, and we will work hard to make sure that 
nobody is victimized in the FHA programs, and so I just reject 
the idea that we do not take it seriously.
    My staff and I work on this on a regular basis, and it is 
our No. 1 priority, and, again, our actions demonstrate that we 
are making substantial progress.
    Senator Collins. Well, let me ask you about another comment 
that you made to the press with regard to these hearings. This 
was part of a news story written by the Dow Jones News Service. 
It says: ``FHA Commissioner William Apgar defended HUD's 
oversight and belittled Senator Collins' hearings,'' and quote, 
``This is just show-boating in order to make cheap political 
points.''
    You did not attend yesterday's hearing. So I want to show 
you some of the excerpts of the very disturbing testimony from 
the three victims that appeared before the Subcommittee and 
see, perhaps, if it alters your view of the importance of these 
hearings. We will roll the tape.\1\
---------------------------------------------------------------------------
    \1\ Exhibit No. 17 is retained in the files of the Subcommittee.
---------------------------------------------------------------------------
    [Video presentation.]
    Senator Collins. Mr. Apgar, when I heard those statements, 
they broke my heart, and there were scores, there were 
hundreds, there are thousands of home buyers who are exactly in 
the same position as those three women, and if you think these 
hearings are show-boating and an attempt, as you clearly were 
quoted in the paper, to make political points, you are sadly 
mistaken. We have a serious problem, and I would expect that 
HUD would want to join me, Senator Mikulski, Senator Sarbanes, 
Senator Durbin, Senator Bond, and others who have expressed 
concern in trying to solve this problem rather than attacking 
us for exposing it.
    Mr. Apgar. I share the importance of the problem. I, 
myself, have talked to many victims in my own travels to 
Chicago, to Baltimore, to New York, and around the country. 
These are heart-wrenching stories, and there is no doubt about 
it. The bottom line here, though, is what we plan to do about 
this. We have an action agenda at HUD, and we are moving. Many 
of the people who have been victimized, we have a plan to help 
make them whole, the most aggressive victim relief program in 
the industry today.
    Many of the people who perpetrated the fraud are now out of 
business because of HUD actions, and so I appreciate the fact 
that we are working with Senator Sarbanes, we are working with 
Senator Mikulski, and we would be very happy to work with you 
to take these hearings and turn them into something productive, 
concrete actions that this Congress can take to help eliminate 
the predatory lending from our mortgage industry.
    Taking up the Senator Sarbanes bill would be a good first 
step. Taking up the efforts to protect Credit Watch would be 
another step. Making sure that the HUD budget is fully funded 
so that we can do the kind of counseling that we need to do is 
a good step, and so I think that we have a lot of work to do, 
and I am glad to see that you are willing and able to work with 
us at HUD as a partnership, because we have a plan, and we just 
need your support to make it happen.
    Senator Collins. Well, let us take a look at one of your 
plans. We have heard from Ms. Rollins in her testimony, the 
last question that she posed or that I posed to her, that she 
and many of the other flipping victims whom we interviewed told 
us that the fact that the Federal Government was insuring their 
mortgage made them think that everything, surely, would be all 
right. After all, if the Federal Government is standing behind 
my mortgage, surely the Federal Government is not going to 
allow me to buy a house that is crumbling; it is not going to 
allow me to be a victim of a fraud and is going to stand behind 
me as the home buyer.
    You heard her say that, that one reason she went forward, 
despite her reservations, is that she could not imagine that 
there would be a problem when HUD was insuring her mortgage. 
They assumed, these home buyers assumed, and it is a very 
logical assumption for them to make, that the Federal 
Government would not agree to insure the mortgage if the 
property was not worth what they paid for it and if it was not 
livable. That is a logical assumption for them to make.
    In addition, as you pointed out in your testimony, I think 
you said in your written testimony it is something like 80 
percent of your portfolio who are first-time home buyers, and 
that is the whole point. We are trying to help these people who 
do not have the experience, who are the first-time home buyers. 
So I think it is very logical for them to draw the conclusion 
that if the government is standing behind the loan, they are 
standing behind them as the home buyer.
    Now I want to show you an ad that HUD has recently produced 
that we happened to see on CNN.\1\
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    \1\ See Exhibit No. 13. Exhibit No. 13.a., a transcript of video, 
appears in the Appendix on page 232. Exhibit No. 13.b. is retained in 
the files of the Subcommittee.
---------------------------------------------------------------------------
    [Video presentation.]
    Senator Collins. This promises home buyers, ``If any 
problems are found, you will know about them before you 
close,'' and I am really concerned that through this ad, HUD is 
perpetuating the false assumption that home buyers can believe 
that the process HUD is using is going to protect them. Another 
problem I have with this ad is the implication that the 
appraiser is going to do this kind of in-depth inspection that 
a home inspector would conduct. Your own form, you have a good 
form that you have recently changed.\2\ I have the updated 
version that says: ``For your protection, get a home 
inspection.'' It is much stronger than your earlier forms, and 
I commend you for coming up with that.
---------------------------------------------------------------------------
    \2\ See Exhibit No. 10 which appears in the Appendix on page 229.
---------------------------------------------------------------------------
    This form makes very clear that an appraisal is different 
from a home inspection. It encourages the home buyer to get an 
inspection, and appropriately so. It makes clear that an 
appraiser is not an inspector, that an appraisal will not 
evaluate the physical condition of the house. It will not look 
at the mechanical systems. It will not identify the items that 
need to be repaired or replaced.
    It explains the difference, and yet your ad seems to foster 
exactly the opposite impression. It says that you can count on 
the appraiser to find out if there are problems with the house. 
I do not understand why you would be running an ad that gives 
home buyers this sense of false security that confuses them 
about the role of the appraiser and the role of the home 
inspector.
    Mr. Apgar. Well, let me just first comment on the role of 
the FHA appraiser. It has always been different. Our appraisers 
are required and have been for some time to note down any 
readily observable conditions that differ from FHA minimum 
property standards. That is not the same as an inspection, and 
we are clear, as we note there, but the conditions that were in 
the homes of the three victims certainly would have been 
readily observable by an appraiser doing his job, and under our 
new system that we have in effect, the home buyer would be 
notified of what the appraiser observed.
    They would observe the fact that the roof was a patched-
over tar job, and the useful life of the roof would not have 
been more than a couple years, as opposed to the buyer who 
believed the roof was good forever. The appraiser can note 
that. The appraiser could turn the lights on and off and note 
that the electrical systems were not adequate. The appraiser 
would have observed conditions of the raw sewage that you 
mentioned. These are readily observable appraisal concerns.
    The appraiser is a responsible agent, if you will, of FHA 
that goes in the property and notes that. We clarify that for 
the home buyer. We give them the information from the appraisal 
report that says here is what the appraiser observed. That 
report then says you should go and get an inspection, just as 
the form did. In addition, we worked collectively with the 
appraisal institutes and others to launch a national campaign 
called For Your Protection, Get a Home Inspection, where 
brochures about the role of the appraiser, the inspector, and 
how to use an inspector properly, as does our home buying 
counseling.
    So we are aggressively encouraging households to get 
inspections, but we are also taking advantage of the fact that, 
as a professional, an appraiser in the home can make 
observations about readily observable defects and that the 
homeowner ought to have that benefit too.
    Senator Collins. Mr. Apgar, in guidance that you put out to 
all of the FHA-approved appraisers in a letter dated November 
12, 1999 that came from you, you tell the appraisers that you 
are not acting--``the appraiser, in performing the appraisal of 
the property, does not act as a home inspector.''
    Mr. Apgar. That is true.
    Senator Collins. And I quote, ``It is not the 
responsibility of the appraiser to guarantee the condition of 
the house, its equipment, appliances, or to certify that the 
property is free from defects.''
    Mr. Apgar. That is also true.
    Senator Collins. Rather, the appraiser is required to make 
reasonable observations that are immediately discernable, not 
required to move any furniture or any equipment. It would not 
have detected the problems in the heating systems in every one 
of the houses we looked at.
    Mr. Apgar. That is for sure.
    Senator Collins. It would not have uncovered the plumbing 
problems, because those did not occur instantly.
    You further go on to say that this really is not much 
different from what we have provided in the past or what we 
have asked from appraisers in the past. You said appraiser 
costs should not rise significantly because this really is not 
adding any additional requirements.
    Mr. Apgar. Right.
    Senator Collins. So how is this different?
    Mr. Apgar. It is different in a couple of ways. First of 
all, it is different in the way it is communicated to the home 
buyer. Prior to the initiation of this new appraisal monitoring 
system, an appraisal form was only seen by the lender and was 
not seen by the consumer. By converting this information 
through the home buyer's summary sheet, these readily 
observable conditions, which would have been reported in the 
examples in the cases--I do not know, but certainly should have 
been reported, are readily observable conditions to warn the 
buyer that there are issues with this property, not a 
substitute for a complete appraisal--inspection, but a detailed 
assessment of things that were observable.
    An additional piece of this is now the appraiser is held 
under our new guidance accountable for making these readily 
observable conditions. A new regulation came out clearly 
articulating exactly what the appraiser is responsible for. We 
believe that the appraisers are at the core of many of these 
property flipping schemes. That is why we have completely 
revised our appraisal procedures. That is why we are expecting 
the appraisers to do what they should be doing, alerting 
homeowners to potential problems, and why we are going after 
those who do not do that, and hold them accountable.
    Senator Collins. Mr. Apgar, I do not know whether you 
remember the first time you bought a house. I remember very 
distinctly when I did. I had no idea between the difference of 
an appraisal versus what a home inspection was. I did not know. 
I did not really truly understand the adjustable rate mortgage 
I was getting.
    When you run an ad like that, that basically tells people 
you do not need to worry about the pipes bursting, I mean that 
is the image you have in the beginning, is water flowing out of 
the pipes. That is not something the appraiser is going to be 
checking for. That is not the kind of structural review that is 
going to be done, and yet what that ad implies is that you can 
just trust HUD, and you will not have problems with your house; 
and I would think that would trouble you, particularly given 
that you are overwhelmingly dealing with people who do not have 
experience in this area.
    Mr. Apgar. I understand your point, and if the ad were 
taken in isolation, but we do other things in order to 
encourage folks to get an inspection, and it is also true that 
our appraisers today, under the new guidance, are providing 
information to consumers that they have the capacity to make. 
How could any appraiser have, without looking at the 
conditions, appraised in the homes that you saw at the prices 
they did? There are defects in those homes. They are readily 
observable, and the appraiser has to note those defects. When 
they note them and provide that information to the consumer, 
that arms the consumer with additional information.
    Senator Collins. Some of the defects would have been noted 
by an honest appraiser. There is no doubt about that.
    Mr. Apgar. And then that is followed up with a caution to 
say this house has serious issues, you should go and get a roof 
person to look at that, you should go get a systems person to 
look at that, you should get a comprehensive home inspection.
    Senator Collins. But the problem is that the kinds of 
problems you are showing at the beginning of that ad are not 
the kinds of problems that you could guarantee that an 
appraiser is going to detect. Those are the kinds of problems 
that a home inspector would identify.
    Mr. Apgar. Our appraisers find problems like that all the 
time and alert our consumers. I mean, you can look at our forms 
and check it out.
    But, trust me, I am not in any way saying an inspection is 
not necessary. We believe that a home inspection is an 
important thing, and we urge all our consumers to get it.
    Senator Collins. Have you ever thought of requiring a home 
inspection as a condition of the loan?
    Mr. Apgar. We have thought about that. We think our 
appraisal requirements are aggressive enough in order to 
protect the consumer in that instance, and we have left it to 
just strong encouragement.
    Our particular concern about mandatory inspections is that 
we are going to mandate a requirement in an industry that is 
very unregulated and that it would just potentially lead to 
inspections at an expensive price that are not necessary, but 
we have under our active review this issue of mandatory home 
inspections. It is certainly one of the possibilities.
    Senator Collins. I would encourage you to take a close look 
and listen carefully to that testimony, listen to what Stekeena 
Rollins told us at the hearing about her thinking she could 
rely on HUD to protect her, and think about the image that ad 
is sending, because that ad is basically telling that first-
time, unsophisticated home buyer that HUD is going to protect 
them, and I think that you do not have the process in place to 
make those kinds of assurances.
    Senator Durbin.

              OPENING STATEMENT OF SENATOR DURBIN

    Senator Durbin. Thank you very much, Madame Chair, and 
thank you, Mr. Apgar, for joining us today.
    I want to say again what I said yesterday. We had three 
people who came and testified before this Subcommittee 
yesterday. I believe we let them down. When I say we, I mean 
all of us who are involved in public service.
    We should have done a better job both at the Department of 
Housing and Urban Development, as well as in Congress. There 
are things that we can do and that we should do to protect 
unwary consumers from the kind of exploitation that we ran into 
yesterday.
    I have a high regard for your Secretary, as well as your 
Department, and I know that you have been part of an effort to 
extend housing to low-income Americans. I do not think there is 
a nobler task in the Department of Housing and Urban 
Development than to give first-time home buyers the 
satisfaction of realizing the American dream, but what we heard 
yesterday is troubling, and I would like to go to a point which 
I asked about yesterday, and the GAO could not comment on.
    There was a reorganization when it came to your 
surveillance of these HUD lenders that resulted in the 
formation of four regional centers and reduction in staff of 
people reviewing the FHA lenders by half. It was part of the 
``20-20 Reform Plan.'' Can you please tell me was this an 
initiative from the Department, or was this something Congress 
either mandated or reduced your funds to the point where it was 
inevitable? How did HUD reach a point where it put surveillance 
of this kind into predatory lending and did not require the 
number of personnel that it did in years gone by?
    Mr. Apgar. OK. There is a two-part answer to that. The 
first part is just the factual issue, is that, in fact, the 
number of people doing lender monitoring has increased 7-fold 
over the last 4 years. So we have taken the staff we have and 
really focused them on an important lender monitoring task.
    In terms of the overall staff cutbacks, they were a result 
of ongoing erosion over time due to budgetary cutbacks. We were 
at one time a HUD of 13,000. A decline in our Salaries and 
Expense funding forced us to move into layoffs and other 
attrition moves.
    Secretary Cuomo arrived and he stopped this attrition. He 
said no. Even though there was some sense that HUD would move 
to a work force of 7,500, he resisted that and stabilized our 
work force now at 9,300. Although, we are concerned because the 
budget that was passed by the House of Representatives would 
force another 400 layoffs.
    So we have reorganized our programs as a result of staff 
cutback. I do not think we have sacrificed, necessarily, the 
quality of programs as a result. Again, with the lender 
monitoring area, we are doing more lender monitoring now than 
we ever did, even when our staff was larger. We used 
automation, for example, to improve our functioning. Almost 
half our loans now are written through automated underwriting 
systems in which the computer does a lot of the work that was 
once done by hand. Much of our analysis of fraud and fraud 
protection tools are computer driven.
    So a combination of automation and other things have helped 
us maintain our focus on fraud protection, while cutting back 
on the work force.
    Senator Durbin. I want to make sure the record is clear. 
You are saying that the number of people involved in this has 
grown by what over the last 4 years?
    Mr. Apgar. A factor of 7-fold. I think the particular 
numbers are 23, which was the number around the early 1990's, 
to 140 today. So 23 to 140, about 7-fold.
    Senator Durbin. These are FTEs? These are Federal 
employees?
    Mr. Apgar. Full time in terms of lender monitoring. The 
number of lender monitoring reviews have increased by a factor 
of four. Our lender monitoring reviews are more in-depth. We 
are asking people to stay longer and do more in-depth analysis 
at the site.
    Senator Durbin. These are not independent contractors or 
private contractors?
    Mr. Apgar. No. These are HUD employees, and as a result, 
the number of referrals--again, before you arrived, I submitted 
for the record just the number of referrals we did in the three 
States where the women from yesterday came from, New York, 
Florida, and your own State of Illinois. We have literally 
hundreds of referrals to the IG, to other agents, as well as 
referrals to our own bodies, the Mortgagee Review Board and the 
like, and this list is just in the last 15 months.
    Senator Durbin. I believe our notes indicated that Easy 
Life in Chicago had been cited and fined by FHA prior to Ms. 
Rollins' bad experience. What kind of efforts do you make to 
ferret out these bad actors based on actual penalties and proof 
of violation?
    Mr. Apgar. Well, the automated system, the Credit Watch 
system is a performance-based system. So it is very quick. When 
we identify a lender who has a high rate of defaults and claims 
relative to the peers in that metropolitan area, we terminate 
them and do not need to have a lengthy process. Our mortgagee 
review process is more of a quasi-judicial process, an 
administrative hearing board.
    Again, the number of cases coming through the mortgagee 
review board are substantial, and when we identify people, we 
do one of several things. We can ask them to indemnify us for 
the loans, i.e. make FHA whole. We can impose civil penalties 
against them, and/or we can debar, suspend them for various 
lengths of time.
    Just last week, we had a major case in New York where we 
debarred one of the larger lenders in the area who had a record 
that was very poor, and we managed to suspend that lender, the 
principal, hit him with a pretty good fine. Those deterrent 
efforts, we believe, are sending a signal through the mortgage 
industry that we mean business.
    Senator Durbin. You said in a public comment about this 
hearing that you thought what we found yesterday was isolated. 
You were kind enough to meet with Ms. Rollins and her attorney, 
and her attorney probably told you, as she told me, that she 
represents some 200 home buyers----
    Mr. Apgar. Right.
    Senator Durbin [continuing]. Who were exploited by this one 
operation. So do you still maintain that this is an isolated 
situation?
    Mr. Apgar. Not in South Side Chicago, it is not. It is a 
big problem there. What we see when we look at our detailed 
information is you can see these scams just emerge. As a 
combination of a broker, a lender, an appraiser, and lax 
oversight by other State and local officials, allow these scams 
to take hold and grow. So we will see heavy foreclosures, heavy 
defaulted mortgages and the like.
    We are able to go in with the help of FBI and others, rout 
some of that out. So in the blocks where it is happening, it is 
not isolated. It is all pervasive.
    Senator Durbin. So when does the red flag go up? When does 
HUD first have a suspicion that a lender or an operation is 
exploiting or deceiving consumers?
    Mr. Apgar. Well, in our current system, we collect 
appraisal data on line. We are monitoring the work of 
appraisers. As soon as we have a couple of indications that 
there is suspect of an appraisal--maybe because the appraisal 
seems out of line with the data we have on prior sales, maybe 
it is because the appraisal seems out of line relative to other 
indicators--we then bring our appraisal monitoring teams in. We 
do a review of all the recent appraisals they have done.
    And, again, that system is just reaching its full maturity. 
Last month, 40 appraisers were sanctioned as a result of that 
program. So that is one way. Another way is tips and other 
things, individual complaints. We are able, through our data 
base, then to run and see how the other loans that that lender 
that was involved in the initial accusation occurred. I believe 
that is how we got many of the lenders in New York--a tip from 
a group that was being scammed from some non-profits.
    Senator Durbin. You mentioned in your testimony that FHA is 
doing a better job of serving African American and Hispanic 
borrowers, and two of our witnesses yesterday were African 
American, one from New York and another from Chicago. I am told 
that the data collected by HUD, perhaps not in your agency, 
suggest that there is a higher incidence of sub-prime lenders, 
even in neighborhoods of comparable income, when it comes to 
African American and Hispanic borrowers.
    Mr. Apgar. Right.
    Senator Durbin. And I would imagine, then, if you go to the 
next subset of first-time borrowers, you can put all of this 
together, the outrageous interest rates on the mortgages and 
the exploited practices for people who are brand new to this 
business. I mean, when I listened to the witnesses yesterday 
explaining their lives in these dumps that they had been 
swindled into purchasing, and it was heart-breaking, but it 
also told a story that for many of them, they had never owned a 
home before and really did not know much about a home in terms 
of how it operates. There is no super to call.
    Mr. Apgar. Right.
    Senator Durbin. You may have to buy your own little tool 
box to try to deal with some things, and you have to be 
conversant with items that a lot of homeowners just take for 
granted, and for a lot of these people, it is not part of their 
life experiences. They have never done it before, and I think 
that is a reality.
    What is FHA doing in those situations? I mean in terms of 
being vigilant and not waiting, perhaps, for a red flag, but 
anticipating some areas where you are going to have a high 
incidence of exploitation?
    Mr. Apgar. Well, exactly, our home buyer counseling program 
of course is part of a broader effort of this administration to 
promote financial literacy among the low- and moderate-income 
families. It is just not about mortgage lending. It is about 
use of credit cards debts, other ways, the banking system. So 
there is a broad set of issues.
    We have a national network of home buyer counselors that 
provide home buyer education. We incentivize them to 
participate in FHA programs. So we believe home buyer education 
is one of the first steps.
    In terms of the national task force, one of the 
recommendations was to launch a national public service ad 
campaign to alert people to the fraudulent practices that are 
out there. Baltimore has such a program. Boston has one, and we 
are thinking about how to make that go national. I mean, the 
people on TV pushing these bad programs every night on the 
night movies and the late night TV, we ought to be on there 
with, saying, Hey, pay attention, do not borrow trouble; think 
about what you are doing before you are here; if it looks too 
good to be true, it probably is; call somebody, call your 
church, call whatever to get some honest advice before you get 
caught up in one of these scams.
    Senator Durbin. Now, what is this hot zone that you have 
made reference to?
    Mr. Apgar. Hot zone is a focus where our data suggests 
there is high share of defaults, people in arrears with their 
mortgage or a high share of foreclosures. That is a place where 
we can concentrate our resources for workouts, loan loss 
mitigation. We can focus our enforcement tools to try to 
identify who are the lenders or the appraisers, the brokers who 
are getting people involved with this trouble.
    Senator Durbin. My last question to you, and I see my time 
is up, concerns the situation with the Easy Life Realty and the 
loan operation that exploited Ms. Rollins. What does HUD or FHA 
do, if anything, to follow through on the licensure of the 
people involved in these scams?
    Mr. Apgar. We can debar the appraiser from ever 
participating in Federal activities. We can debar the lender 
from ever participating.
    Senator Durbin. Is this by individual or by company?
    Mr. Apgar. By individual and company.
    Senator Durbin. Both?
    Mr. Apgar. The list I have is both individual action and 
corporate action, people by name as well as their companies. 
Obviously, the company part is tricky because some of these 
folks quickly form other companies.
    Senator Durbin. Well, what about the State licensure part 
of this? For instance, when I learned from the attorney for Ms. 
Rollins is that some of these people, these realtors who had 
treated her so badly were still in business in my State. That 
is embarrassing, and we are going to contact the Illinois 
Association of Realtors and the State of Illinois to try to 
figure out why this exists, but what does HUD do? What does FHA 
do as part of this?
    Mr. Apgar. We notify appropriate agencies of our actions. 
We hope that they will follow through, but we are trying to do 
more than just hope. We are now piloting in Baltimore a 
mortgage system called MARI. I do not know what it stands for, 
but it is an effort by the mortgage industry to track all the 
bad guys and make that information widely available to others 
in the industry.
    So they will bring the information of FHA debarrments, 
other State and regulatory actions together in one screen 
source so that everybody will be on notice of who the bad guys 
are, so if they are debarred in one system, you will know it in 
another context.
    That is one step, but there is certainly a lot more room 
for State involvement in these mortgage frauds.
    Senator Durbin. Let me close with this comment. I have 
worked with Secretary Cuomo on what I think is going to be a 
revolutionary change in public housing in the city of Chicago. 
It was a subject of a lengthy negotiation between the Chicago 
Housing Authority, the Department of Housing and Urban 
Development, and the families affected by these decisions. What 
came out of that, I thought was a realistic and sensitive 
approach for housing for people in low-income categories, and I 
believe that is in the heart and ideals of the Secretary and I 
believe of this administration.
    What we heard yesterday is a rude awakening in terms of one 
aspect of the Department of Housing and Urban Development. I 
would never characterize it as isolated. I do not think it is 
isolated. I think to assume that is to assume a situation which 
may not even be close to the truth at this point. So I would 
hope that as a result of this hearing and the leadership of the 
Chairman in this hearing, that HUD will renew its efforts and 
take this as a constructive suggestion that we all have to work 
together a little more diligently both at the other end of 
Pennsylvania Avenue and up here on Capitol Hill.
    Mr. Apgar. Fair enough. Today's HUD is all about making 
sure that the things you heard about yesterday can never happen 
again.
    Senator Durbin. Thank you very much.
    Senator Collins. Thank you very much, Senator Durbin. I 
want to note, Senator Durbin, before you leave that according 
to my staff, HUD still has not taken any action against some of 
the individuals involved in the Rollins case. For example, the 
president of Dependable Mortgage and the underwriter are still 
operating in the loan business in Chicago, and that is 
troubling to me.
    Mr. Apgar. Right. As I mentioned earlier, in 1996, we did 
refer Easy Life to the inspector general because we believed 
that this was criminal party involved, and we did debar the 
company.
    Senator Collins. I am talking about the lender.
    Senator Durbin. What about the lender?
    Mr. Apgar. The lender disappeared.
    Senator Collins. Well, we found them.
    Mr. Apgar. What?
    Senator Collins. They are still operating in the loan 
business in Chicago. So we will help you find them.
    Mr. Apgar. No. The lender, we took action against the 
lender, and the lender went out of business.
    Senator Collins. The lender, Dependable Mortgage--you are 
right--no longer exists, but the principals of Dependable 
Mortgage have simply gone on to another company, and that is 
the whole point.
    Senator Durbin. That is the point. What is your answer to 
that?
    Mr. Apgar. The answer, we took action against Dependable 
Mortgage. If the new lender is engaged in deceptive practice, 
we will take action against them.
    Senator Durbin. John Smith, President of Dependable 
Mortgage has now done so many terrible things that HUD and FHA 
have decided that his Dependable Mortgage company is no longer 
eligible for FHA. John Smith says it breaks my heart. I just 
spent $200 with my attorney, and now we are the Ultra 
Dependable Mortgage.
    Mr. Apgar. Right. I hear you. John Smith should be in jail, 
and we should not do business with him.
    Senator Durbin. Well, the question is what is your action? 
Do you have a way of taking action so that John Smith is 
tracked from this point forward, as opposed to the name of the 
next company or the last company that he worked for?
    Mr. Apgar. We track each of our lenders, and if it is 
current business--if he goes back into business, we can stop 
him, and then we can permanently debar him as an individual.
    Senator Durbin. As an individual?
    Mr. Apgar. Yes.
    Senator Collins. But that has not happened in this case.
    Mr. Apgar. You could be right on that.
    Senator Durbin. Would you look into that?
    Mr. Apgar. Sure will.
    Senator Durbin. I am glad the Chairman brought that up, and 
I really hope we can follow through and get a good answer on 
that, because there is no reason why these people should 
continue to do business.
    Mr. Apgar. In Chicago, we work with the community groups 
who give us particular names all the time, National People's 
Action and others, and so that is one of our main sources of 
evidence on who the bad guys are, and we are taking, as I said, 
in this list hundreds of actions in Chicago. I do not know if 
we took action against this particular person or not.
    Senator Durbin. Thank you.
    Senator Collins. Mr. Apgar, I just have a couple more 
questions for you. One of the concerns I have about the latest 
plan that you have unveiled to try to crack down on these 
predatory lending practices and property flipping is that when 
I look over the past 7 years, I can count at least 12 reports 
or audits that have criticized HUD's management of the single 
family program.\1\ Repeatedly, HUD has been put on notice by 
its own IG, by the GAO, by outside auditors that its programs 
are vulnerable to fraud.
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    \1\ See Exhibit No. 18 which appears in the Appendix on page 314.
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    Why is it taking so long for HUD to propose improvements to 
crack down on the fraud? I mean why, I have got reports that go 
back to April 1993, May 1995, February 1997, March 1997, July 
1997, another July 1997, March 1999, April 1999, January 2000, 
February 2000, March 2000, and April 2000. This makes me 
question whether or not HUD is really going to take sufficient 
action and be committed for a sufficiently long time to solve 
this problem when 7 years of reports and we still see the 
problem today.
    Mr. Apgar. Well, I mean, we could go back even further into 
the mid-1980's when the Department was a total mess. The FHA 
fund was nearly bankrupt during the 12 years that preceded the 
arrival of the Clinton Administration. In 1990, the fund was so 
poorly managed that it was $2.7 billion under water. We did not 
have enough to even cover the claims for the insurance that was 
outstanding, much less make new loans, and so a lot of time was 
spent digging out from the mess that was inherited. That is no 
doubt.
    Senator Collins. Well, there was a significant premium 
increase for the insurance fund that helped make the insurance 
fund look better.
    Mr. Apgar. Well, I would like to submit for the record the 
facts about the premiums, because I understand that came up 
yesterday.\1\ In fact, the premium, which was legislated, 
mandated as the maximum, was set at 3.8 percent, the front-end 
premium, and since then, it has dropped almost 40 percent to 
about 2 percent today. We have a couple different premium 
structures, and so, in fact, we have cut the premiums 
substantially as we have been able to make the fund more 
healthy by our improvements.
---------------------------------------------------------------------------
    \1\ See Exhibit No. 16 which appears in the Appendix on page 313.
---------------------------------------------------------------------------
    And, again, today the fund is in its best financial shape 
ever. This is not us speaking. This is our own independent 
auditors and an independent actuarial study that suggests that 
FHA has an economic value of $16 billion, up from the minus 
$2.7 billion just a few years ago. So there has been 
improvement, not to say that we did not get a big jump start 
when Secretary Cuomo arrived with all his vigor and commitment 
as being zero tolerance for waste, fraud, and abuse. We really, 
in the last 3 years, put a major amount of energy into 
restructuring all our systems so we can protect the folks that 
were testifying today from abusive practices.
    Senator Collins. For the record, I am going to follow up 
with some questions on what this administration did in response 
to each of these reports, but in the interest of time, I will 
ask that the----
    Mr. Apgar. If I could make one request to you, yesterday 
when I was reviewing the reports of the testimony, it seems to 
me that these are very complicated matters, and in a give and 
take, there can be many misstatements and misperceptions. So I 
would like to request the opportunity to review the report 
myself and point out any inconsistencies on how we see it.\2\
---------------------------------------------------------------------------
    \2\ On July 11, 2000, Assistant Secretary Apgar was provided with 
copies of the Permanent Subcommittee on Investigations' June 29 and 30, 
2000, hearing transcript for his review and comment as well as a copy 
of all prepared remarks of witnesses and the General Accounting Office 
Report on this matter. On August 3, 2000, the Subcommittee received and 
incorporated into the record editorial changes to Assistant Secretary 
Apgar's testimony of June 30, and materials on New York City, Chicago 
and Florida Lending Activities/Actions Taken (See Exhibit No. 15 on 
page 296) and FHA Premium Policy (See Exhibit No. 16 on page 313).
---------------------------------------------------------------------------
    Senator Collins. We would welcome any materials. We want to 
make sure we have the fullest possible understanding.
    Mr. Apgar. Right, because, again some of these issues are 
pretty complicated.
    Senator Collins. They certainly are, and HUD has a lot of 
explaining to do. So I look forward to getting your comments on 
all of the testimony, and we will happily share with you the 
hearing record from yesterday.
    Let me ask you one final question. We have talked a little 
bit this morning of the position of debarring or suspending or 
otherwise taking enforcement action against those individuals 
who are ripping off the FHA program, but equally important, as 
the GAO testified yesterday, and as its April report of this 
year demonstrates, is making sure that bad actors do not get 
into the program, in the lender program in the first place. I 
want to talk to you just briefly about the process that HUD 
uses for granting direct endorsement authority to lenders.
    GAO did an in-depth investigation, looking at the front-end 
process and found that in the 6 months prior to its office 
visits to the four homeownership centers, that the centers 
granted direct endorsement authority to a total of 36 lenders. 
Now here is the part that troubles me: Fully one-third of the 
lenders, 12 of them who were granted the direct endorsement 
authority got poor ratings from HUD when HUD was reviewing the 
15 mortgages that they are required to submit for review. Poor 
ratings, and yet they received the direct endorsement authority 
anyway. I do not understand that.
    How can a lender who does not pass the threshold test at 
the front end be given the authority by HUD to underwrite these 
mortgages without HUD's review?
    Mr. Apgar. OK. Our rules for the direct endorsement system, 
a lender submits to us loans in their initial work, and we rate 
them. When we identify a loan that is judged poor, we talk to 
the lender and help them understand what part of the process 
they did not understand. We continue that process until the 
judgment of the review staff that that lender is fully capable 
of managing these loans.
    In some instances, a poor rating may be a minor issue. In 
other instances, it may be more substantial, but in any event, 
we continue to work with them until they are able to 
demonstrate sufficient understanding and capacity to exercise 
this responsibility. Then--and the part that was not mentioned 
at all in the GAO report--we continue to monitor that lender 
through the next 50 loans or 180 days with a complete review, 
and at that point, a lender can be, in fact, sanctioned or not 
allowed to continue on with the program. And, finally, of 
course, some direct endorsement lenders are removed from the 
program and put back on either 100 percent review of these so-
called post-technical reviews or remove their direct 
endorsement authority entirely.
    Again, in the papers I submitted, I give you examples in 
each of the cities of lenders that have in the last 15 months 
been treated with all those remedies, put on 100 percent post-
technical review, removed their direct endorsement status, and, 
of course, ultimately in the sense of lenders that are not 
performing, we move to sanction them and terminate them from 
the program.
    Senator Collins. Well, you have been misinformed, 
apparently, about the 12 lenders that I am talking about, the 
one-third of the cases, as GAO said very clearly yesterday 
these were not minor errors. These were not paper-work 
problems. They were significant deficiencies.
    Mr. Apgar. I reread the report on that point. They said the 
types of----
    Senator Collins. Well, you did not hear the testimony, the 
exchange I had where I followed up.
    Mr. Apgar. That is an area of qualification I would like, 
because the testimony was inconsistent with their own written 
report. The written report identified four areas and four 
examples of what were poor, but there was no evidence and no 
indication that the lenders had committed the worst part of 
those things. Some might have. Some did not.
    Our own understanding, looking at the greater detail of 
that report and talking with follow up, is that it is a range 
of types of activities.
    Senator Collins. Well, that is not what GAO said yesterday, 
and I would also indicate to you----
    Mr. Apgar. Well, again, I just encourage----
    Senator Collins. If you could let me finish my sentence, 
and then I will let you finish yours.
    Mr. Apgar. I am sorry.
    Senator Collins. GAO said that these were not minor 
problems, but rather they were basic fundamental and serious 
errors, such as failing to verify the buyer's income, and that 
the procedures being followed would not ensure that the loan 
was appropriate. They were serious errors, and my point to 
you--I mean, if you are satisfied with the front-end system, I 
think we have got another real problem here.
    Mr. Apgar. No. We took many of the GAO recommendations to 
heart and are, in fact, working to tighten up the front-end 
system. What we disagreed with is the characterization that 
this suggests that we were in a very lax way letting totally 
unqualified lenders into the program. We do not believe that to 
be an accurate statement of the facts.
    On the other hand, they had many excellent suggestions on 
how we can improve this process and we can, in fact, implement 
them.
    Senator Collins. Well, I am glad to hear that last part, 
because I think GAO did an outstanding job on this report and 
that they identified many weaknesses in the process at the 
front end and in the reviews, and I might add that GAO also 
identified more than 200 lenders nationwide during Fiscal Year 
1999 who received poor ratings for mortgage credit analysis on 
more than 30 percent of the reviewed loans. That is troubling 
and nothing happened in those 206 cases. HUD did not take any 
action.
    Mr. Apgar. Right. We use that information in our new system 
to target lender monitoring reviews. Again, the GAO mentioned 
but did not elaborate on our new effort to track the post 
technical reviews and use them as a targeting device, the so-
called ART system.
    Senator Collins. Mr. Apgar, I hope that you will take to 
heart the testimony that you have heard. We are happy to give 
you the hearing record, because I very much want you to read 
the hearing record.
    I hope that you will commit yourself to recognizing that 
this is a serious, widespread problem that it is not isolated, 
that it is something that is going to require the joint and 
cooperative efforts of us all to solve. I am aware of your 
Credit Watch program, which I think is a promising program, is 
under attack in the courts. If we can provide a statutory basis 
for that, that is helpful, that is something I am certainly 
willing to help with, but I have to tell you that I think your 
whole approach to these hearings has been extremely 
disappointing, and it raises questions in my mind about whether 
or not HUD is interested in just PR, such as that ad, or really 
solving the problem.
    So I hope you will commit today to working with us and to 
working with your IG and GAO in a cooperative effort, because I 
think both of us, all of us share the goal of making sure that 
these home buyers are not exploited, and that is what is 
happening now, and we just have to do everything we can to put 
a stop to that.
    It is not just losses to the insurance fund. Those concern 
me as well, but what concerns me even more are these home 
buyers who, rather than living the American dream, are finding 
that their dream of homeownership has turned into a true 
nightmare, and I would hope that that is something we could all 
agree is a common goal of preventing these kinds of scams and 
fraudulent schemes.
    Mr. Apgar. Well, I certainly look forward to working with 
you and others who want to join us in our efforts to end 
abusive practices in the FHA or any other mortgage market. So I 
appreciate that.
    Senator Collins. Thank you. I am now pleased to welcome our 
final witness today, Susan Gaffney, who is the Inspector 
General of the Department of Housing and Urban Development. The 
Inspector General's testimony will include the historical 
causes for HUD's present problems with flipping and mortgage 
fraud, and I very much appreciate the great work that she and 
her office has done on this issue. I would ask her to come 
forward and to introduce the two individuals who are 
accompanying her.
    Before you get comfortable, I do need to swear you in.
    Do you swear that the testimony that you are about to give 
will be the truth, the whole truth, and nothing but the truth, 
so help you, God?
    Ms. Gaffney. I do.
    Ms. Kuhl-Inclan. I do.
    Mr. Kesaris. I do.
    Senator Collins. Ms. Gaffney, welcome, and I look forward 
to hearing your testimony. You may proceed.

    TESTIMONY OF SUSAN GAFFNEY,\1\ INSPECTOR GENERAL, U.S. 
  DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT, ACCOMPANIED BY 
KATHRYN KUHL-INCLAN, ASSISTANT INSPECTOR GENERAL FOR AUDIT, AND 
      PHILIP A. KESARIS, ASSISTANT INSPECTOR GENERAL FOR 
     INVESTIGATIONS, U.S. DEPARTMENT OF HOUSING AND URBAN 
                          DEVELOPMENT

    Ms. Gaffney. Thank you, Madame Chairman. I would like to 
introduce, as you suggested, Phil Kesaris, who is our Assistant 
Inspector General for Investigations; and Kathy Kuhl-Inclan, 
who is our Assistant Inspector General for Audit. They are the 
real experts and are available to help me with this hearing.
---------------------------------------------------------------------------
    \1\ The prepared statement of Ms. Gaffney appears in the Appendix 
on page 107.
---------------------------------------------------------------------------
    I would like to commend you and the Subcommittee for your 
interest and concern about the flipping issue. I would also 
like to commend Senator Mikulski and John O'Donnell, who is a 
reporter for the Baltimore Sun. They have also done a lot to 
raise awareness of this issue and to galvanize HUD into some 
action.
    Senator Collins. I certainly agree with your comments.
    Ms. Gaffney. Over the past few years, single family fraud, 
including flipping, has become a major component of our 
investigative workload, and I think it is fair to say that the 
growth in these cases is to the point where it is about to 
overwhelm the resources of the OIG and the U.S. attorneys who 
have to prosecute these cases.
    What we have learned from our flipping investigations is as 
follows: First of all, the Secretary and Mr. Apgar talk about 
predatory lending, and typically they talk about predatory 
lending as a phenomenon in the sub-prime lending market. We are 
not talking about sub-prime lenders here. We are talking about 
FHA-approved prime lenders.
    Second, we have forever seen fraud in the single family 
program, but it is only recently, only in the past several 
years, that we have seen this phenomenon of flipping. It is 
new. It is not historical. This is not business as usual.
    Another point about flipping is that it typically involves 
collusion by multiple people. This is not like your deciding to 
commit fraud on your own by making a false statement on your 
income tax return. These flipping deals require collusion by 
multiple people, and further, these multiple people tend to be 
quite professional in perpetrating the frauds. Their actions 
tend to be quite orchestrated, and to give you an example of 
that, in December 1999, a U.S. attorney in central California 
announced 39 indictments of persons who were involved in 
massive flipping and fraud, and all of those cases rested on 
our having identified one person whose full-time occupation was 
generating forged documents to be used in obtaining FHA 
insurance.
    My point here is that this is not casual fraud. This is not 
seat-of-the-pants fraud. This is orchestrated. This is 
collusion. It is, as you have said, also distinct from other 
types of single family fraud because this does not just harm 
the mortgage insurance fund. It destroys human beings, and 
there is no doubt that you are right that they still believe in 
their government, and they still believe that if their 
government is standing behind a loan, it is a good loan.
    The other area where we have a difference with Mr. Apgar: 
He said these are isolated problems. We find, in fact, that 
flipping is pervasive. We have open flipping investigations now 
in 14 States. Perhaps the best indication of the pervasiveness 
is we started, about a year and a half ago, a new initiative 
called the Housing Fraud Initiative in six judicial districts. 
We now have 139 open single family fraud cases in those six 
judicial districts, and half of them involve flipping schemes. 
This is all over the place, and when we find evidence against a 
particular lender, a particular appraiser, typically what is 
happening is they are saying, Well, OK, you got me, but guess 
what, I know 10 or 20 other people who are doing the same 
thing.
    So not only is it pervasive, but it is not a secret. They 
all know what is going on, and in this day of the Internet, it 
is simply foolish to think that some people have an enormously 
profitable scam, and nobody outside those isolated little 
centers knows anything about it.
    Your concern about flipping led you to ask GAO to do a 
review of the single family loan origination program. Our 
concern about flipping and single family fraud led us to do an 
audit of the same area. We, in addition, looked at two major 
cases of fraud and went back and did specific audits to try to 
find out why such massive frauds could be perpetrated without 
HUD's having detected them. I think it is fair to say that all 
of these audits have reached the same conclusion and that is 
that the internal controls that should be working in the single 
family loan origination program to prevent fraud, waste, and 
abuse really are not working effectively, and, of course, that 
is the same boring message that IGs always convey and it does 
not have a lot of pizazz.
    I actually thought that our two follow-up reviews on 
specific frauds had some pizazz. In the first case, Allstate 
Mortgage Insurance, we had a situation where Allstate generated 
400 fraudulent mortgages valued at $97 million. So we went back 
into the homeownership center to say, how could this possibly 
happen with no one finding any indication of it at all? And 
what we found was that, in fact, 17 of these loans had been 
subject to post-endorsement review by a contractor to HUD; and 
the contractor's reviews were severely, were grossly 
inadequate. The contractor reported no problem with these 
loans, even though there were blatant examples of fraud in the 
case file.
    The other instance of fraud was not flipping, but it was a 
case where a HUD employee was responsible for selling HUD 
property that was valued at $9 million. She sold it for $2 
million, and this went on for over a period of a couple of 
years, and no one in HUD detected it. We found out about it 
from outside of HUD, and when we went back to HUD to find out 
how in heaven's name could this happen and go undetected, the 
answer was that this employee was subject to no supervisory 
review at all. She unilaterally made these decisions, made 
these sales, and they were not subject to review by anyone 
else. That is $9 million worth of sales for $2 million.
    So HUD's reaction to this situation, the investigative 
cases, and the audits has been 3-fold. First, HUD mightily 
proclaims that the mutual mortgage insurance fund is in the 
best shape ever, and I am not here to dispute that. The latest 
actuarial study certainly puts the fund on sound footing. I do 
not think, though, that any of us would say that because the 
fund is on sound financial footing, we are perfectly prepared 
to tolerate fraud against the government and against individual 
victims, at least I hope not.
    Second, HUD's reaction has been to announce a series of new 
initiatives that you have discussed, such as Credit Watch, the 
certification of FHA appraisers, a new centralized appraisal 
review system, and the restructuring of flipped mortgages down 
to the true value of the properties.
    And HUD's third reaction has been pretty extreme 
defensiveness with respect to the GAO and OIG audit findings.
    So let me go through these three HUD responses very 
quickly. First of all, as I said, the MMI fund is in good 
shape, but what does that have to do with stopping fraud? 
Second, we think the new initiatives, as you have indicated, 
are generally good ideas. We have not seen the results, and HUD 
is notoriously good at planning new initiatives so that we are 
always looking prospectively, but my important message to you 
today is these initiatives cannot substitute for the day-to-day 
work that is being done by the homeownership centers. The 
controls that we need to have are there. They are in the day-
to-day business. They are not extra, added endeavors off to the 
side, and after the fact. I am not opposed to those things, but 
they should be building the fundamental internal controls in 
the business operations.
    With respect to HUD's defensiveness about the audit 
findings that we lack adequate internal controls in the 
business operations to prevent waste, fraud, and abuse--I 
really do not understand why they are so defensive, because if 
you stand back and look at the situation, what has happened 
over the past few years? What has happened is the volume of FHA 
loans has increased very substantially. The FHA underwriting 
standards have changed very substantially. The single family 
staff has been cut in half, and it has been dramatically 
reorganized. It is any surprise to anyone in light of those 
facts that they do not have their act together very well?
    I say that not as a negative. I say that as a plea to you 
and others to understand that the time has come. We must now 
stand back and say we have been through all of these changes, 
we have problems, let us allow the dust to settle, and let us 
figure out how to make the program really work to prevent 
waste, fraud, and abuse.
    Now, it is going to be boring to do that, because it is 
going to require writing policies and standards. It is going to 
require training people. It may even require obtaining more 
resources and people from the Congress, but until we take on 
the real task, we are just playing at the edges.
    Thank you.
    Senator Collins. Thank you very much for your very helpful 
statement, and, again, I want to commend you and your 
colleagues for the excellent work that you have done in this 
area.
    And one of the reasons that I feel very uneasy about HUD's 
commitment to solving this problem is to have Mr. Apgar sit 
here and continue to maintain that this is just an isolated 
problem when you are in 14 States, and whenever where we 
looked, every single city where we investigated, we easily 
found evidence of flipping schemes. It just seems to me that 
the denial of the extent of the problem does not bode well for 
concerted effort to solve the problem, and your testimony is 
very helpful.
    I think you also raise an excellent point about the 
insurance fund. Just because the insurance fund is healthy does 
not mean we should tolerate fraud, and, indeed, with an 
economic downturn, the insurance fund could be in trouble very 
easily. Moreover, when you look at--and there have been premium 
increases that were responsible for restoring the health. Is 
that not true?
    Ms. Gaffney. That is correct.
    Senator Collins. Let me ask you about a comparison of the 
delinquency and foreclosure rates of FHA-backed mortgages and 
conventional mortgages. You recently--I think it was in March 
of this year--issued an audit report entitled Single Family 
Production Homeownership Centers in which you compared the 
delinquency and foreclosure rates of FHA-backed mortgages with 
conventional mortgages, and the charts that you used--and I 
believe these are your charts----\1\
---------------------------------------------------------------------------
    \1\ See Exhibits No. 11 and 12 which appear in the Appendix on 
pages 230 and 231.
---------------------------------------------------------------------------
    Ms. Gaffney. Yes.
    Senator Collins [continuing]. Seemed to me to show that FHA 
delinquency rates have risen steadily over the past 5 years, 
and the foreclosure rate has risen even more dramatically, 
particularly when you compare it to conventional loans. Could 
you comment on this?
    Ms. Gaffney. I am going to ask Kathy to comment.
    Senator Collins. OK. Thank you.
    Ms. Kuhl-Inclan. This information, we took from the 
Mortgage Bankers Association. They have been taking a phone 
survey of lenders for about 4 to 6 years, and our point was 
just to illustrate a difference between where the conventional 
market is going and where the FHA market is going, and we know 
that the FHA foreclosure and default rate will be higher than 
the conventional rate. Our loans tend to be of higher risk, but 
we expected it to be somewhat parallel, not those huge spikes, 
and we wanted to just make the point that there are some 
problems and concerns and reasons to be looking at, as Susan 
talked about, the internal controls and the processing of the 
mortgages because these rates are so much higher than the 
conventional rate.
    We only wanted to demonstrate comparisons, and, again, just 
to show that there should be some parallelism between the 
differences, not these spikes as they are showing.
    Senator Collins. I think that is an excellent point. As you 
mentioned, you would expect the foreclosure and default rate to 
be higher, because, after all, that is why we have the 
government-backed loan program, but when you see it so much 
higher and going in the wrong direction, and you see these 
spikes, it suggests to me that something else at play here, 
that it is not just because the loans in general are going to 
be riskier, but, rather, it suggests to me that there is some 
weakness in the system.
    Is that a fair analysis?
    Ms. Kuhl-Inclan. That is exactly right. That is sort of our 
basis for them looking at what is behind those spikes and 
looking at the weakness that we talked about in our report.
    Senator Collins. Ms. Gaffney, in your written statement, 
you stated, ``That the liberalization of FHA underwriting 
standards, the severe reduction in HUD's monitoring staff, and 
the major organizational changes in HUD all combined to 
increase the vulnerability for fraud,'' and it was suggested 
yesterday that there is a lack of resources devoted to the 
high-fraud areas or the areas that are most vulnerable to 
fraud.
    The GAO, however, indicated that the changes within HUD are 
not so much of the result of any budgetary cutback as 
managerial decisions made solely by the Secretary. Could you 
comment on that? Are you seeing a growth in central office 
staff versus the homeownership centers? Could you enlighten us 
on that?
    Ms. Gaffney. Perhaps I could go back to Senator Durbin's 
question.
    Senator Collins. Yes.
    Ms. Gaffney. About whether the cutbacks in staff were the 
result of Congressional cutback or action by HUD. I have now 
been at HUD for more than 7 years, and I can tell you what I 
know. The cutbacks in HUD started as a result of a proposal by 
Henry Cisneros to cut the staff in HUD from 13,000 to 7,500. 
There was no basis for that proposal; there was no analysis 
that supported that HUD could live with 7,500 staff, but he 
felt it was a dramatic enough proposal to save HUD from being 
dismantled, and, in fact, he was right. The forces for 
dismantling stepped back at that point.
    When Secretary Cuomo became Secretary, he and the Congress 
went along with Secretary Cisneros' downsizing proposal. When 
Secretary Cuomo became Secretary, he did not put that proposal 
up to question. He made a decision to continue the downsizing, 
and it was not until several years after he became Secretary 
that he took the position, I believe, that Mr. Apgar spoke 
about, which is we will stop this downsizing at 9,000.
    As far as I know, the impetus for downsizing has been HUD, 
but it is true that the Congress has not disputed the HUD 
actions. Does that answer your question, Senator?
    Senator Collins. It does. Has there been a growth in 
central office staff, in the Secretary's office, do you know, 
versus these other areas that have been cutback?
    Ms. Gaffney. Well, the big area that we have had problems 
is the Secretary's implementing a whole new program involving 
some 800 people against the backdrop of HUD's major downsizing. 
For the Secretary to set up a new program involving 800 people 
is quite extraordinary. That program is called the Community 
Builders Program. We did an audit of that program within the 
last year, and our conclusion was that, principally, what the 
community builder program does is public relations.
    Senator Collins. So it might be better to have those 800 
slots devoted to making sure that we are policing the single 
family program?
    Ms. Gaffney. Right.
    Senator Collins. One final question for you. I have looked 
through your audit reports and the reports issued by GAO over 
the past 7 years, and one of the things that troubles me most 
and makes me wonder about the commitment of HUD efforts to 
getting a true handle on this problem is it seems to me that 
throughout the 7 years, the same problems are identified over 
and over again, and I want to give one example to you.
    In April 1993, your office released an audit report on 
HUD's direct endorsement program. We have talked a lot about 
that during these hearings, and it was very critical of it. It 
found that sanctions were not taken, were not effectively used 
to protect the integrity of the direct endorsement program and 
that the direct endorsement underwriter approval process was 
not effective. Those are the exact same findings that the GAO 
found this year.
    Is it your experience that some of the same problems that 
you flagged or your office flagged 7 years ago still exist?
    Ms. Gaffney. Absolutely, and what you are specifically 
talking about is there is an unwillingness, historically, in 
the HUD programs to take actions against bad actors to remove 
them from the HUD programs. When Mr. Apgar talks about the 
Department's fight against fraud, waste, and abuse, he tends to 
be talking about centralized offices in HUD that have pretty 
narrow missions, such as the enforcement center.
    Where you really need the willingness to take enforcement 
action is in the program areas where they are seeing the 
problems right at the beginning, where they can stop it, and 
somehow that message has not been conveyed in HUD.
    Senator Collins. Kathy, did you want to add to that?
    Ms. Kuhl-Inclan. One comment is that they do not seem to 
realize--when we do our audits, we are actually in the field 
dealing with the people at the lowest level all the way up to 
the directors, and they are telling us we cannot make our goals 
unless we look at the low risk lenders, we do not have time--we 
are going to take the path of least resistance in order to make 
our goals, in order to do our jobs.
    So the idea of going after the lenders where there are 
indications of risk or of the appraisers where there are 
indications of risk is time consuming. They cannot make their 
goals, and what is frustrating to us is that we are saying that 
these frustrations are being said by their staff, and they just 
say, Well, we are doing a new program, or we have a policy in 
place, but those policies are not working, are not being used, 
and are not being implemented. They have to listen to what 
their staff is telling them.
    Senator Collins. And it sounds like what you found is that 
low risk lenders will be reviewed because it is quick and easy, 
and you can make your numerical goal, and you do not go after 
the high risk lender because that is going to take a lot of 
work. Is that fair?
    Ms. Kuhl-Inclan. It is fair, and it is not only what we saw 
through looking at the statistic, but it is what they told us 
too. So we backed up what they said by the statistics that 
prove it out.
    Senator Collins. And I would add to that that you are not 
alone in reaching that conclusion. That is precisely what GAO 
found and said in its report, as well as when they talked to 
the individuals involved out in the field.
    Mr. Kesaris, do you have anything you would like to add?
    Mr. Kesaris. On the point, Senator Collins, that the 
flipping schemes are an isolated instance, we have 240 criminal 
investigators in 38 States, Puerto Rico, and the District of 
Columbia, and they would ask me to tell this Subcommittee that 
it is not isolated at all. We have seen a rapid increase in 
this type of scheme as the ``fraud de jour'' and not just in 
the locations where our agent-auditor teams have intensified, 
such as New York, Chicago, and Los Angeles, but in many, many 
States, and the number of complaints is just continuing to 
increase.
    Senator Collins. I appreciate your adding that information 
to our understanding and to the record. It is evidence to me, 
given how hard you have all worked and GAO has worked, that we, 
in Congress, need to keep a spotlight on this problem if it is 
going to be solved, because when I read 11 different reports 
over 7 years warning HUD time and again of the same problems, 
it is evidence that Congress needs to play an active role here. 
I just want to thank you all very much for your assistance and 
for the excellent work that you have done. You really are on 
the front lines. You are our watch dogs, and I have great 
admiration for the work that you do.
    So thank you very much for your contributions, and I hope 
you will continue to work with us as we seek to make sure that 
this time HUD takes this issue seriously and important policy 
changes and standards are implemented to crack down on this 
fraud once and for all. Thank you.
    Ms. Gaffney. Thank you.
    Senator Collins. I want to thank everyone who has 
contributed to these hearings in addition to our panels today. 
The testimony of the three very courageous witnesses who were 
willing to tell their stories publicly, which was obviously 
very difficult for them. It is awfully hard to come before 
Congress and admit that you were deceived, and I think those 
stories were very important because they put a human face on 
this problem, and as we go forward and seek to solve it, I 
think we should always remember the three women who testified 
yesterday, because their stories are duplicated thousands of 
times across this country. That is one reason that I am so 
committed to working with the IG, to working with HUD, to 
working with GAO to solve this problem.
    I also want to thank the Subcommittee staff for its work on 
this investigation. As the IG and her staff know better than 
most people, and as GAO knows, this is an enormously complex 
subject. We have been working on this investigation for 9 
months. We did extensive work on it, and the staff worked very 
hard.
    I want to thank a few of them by name: Lee Blalack, who is 
the Subcommittee's Chief Counsel and Staff Director, did an 
excellent job. Lee is going to be leaving us for the joys of 
the private sector. These are his last hearings--we will miss 
him. Rena Johnson, who is the Deputy Chief Counsel. Karina 
Lynch, who regrettably is also leaving us for the joys of the 
private sector. We have got to do something about salaries 
here. Claire Barnard, Jim Pittrizzi, Ray Kessenich, and Bob 
Groves, who has been on detail to the Subcommittee from the HUD 
IG's office--we are delighted to have his expertise. Brian 
Jones, Elizabeth Hays, and Mary Robertson all contributed 
greatly to the success of these hearings. We were also 
fortunate to have help from three very talented summer 
interns--Courtney Hays, Joe Kosnow, and Adam Thomas. So I want 
to thank them as well.
    This hearing now stands adjourned.
    [Whereupon, at 12:45 p.m., the Subcommittee was adjourned.]
                            A P P E N D I X

                              ----------                              

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